The House Builders Index - A Real-Time Indicator of House Prices?

A major difficulty with house price indices is the lag that's often inherent in the methodology, so that even when published they are already partially out of date. Trying to find a suitable minimally lagged indicator is clearly very attractive, and alongside from BoE number of mortgage approvals for house purchase we can also try looking at the Stock market quoted prices of builders' shares. The key idea (Dr Bubb, HPC and GEI forums, 2005, 2006) is based on the following observation:

Suppose that general market sentiment can split into two parts - S1 towards property, and S2 towards Stocks. Now the price of houses will reflect S1, the share price of builders will reflect S1 and S2, and the price of shares (say the FTSE) will reflect S2 only. If we measure the builders shares (S1 + S2) relative to the stock market index (S2) we can extract S1, the sentiment towards property, and hence construct an estimate for the general level of house prices. Obviously quite useful as the index would in effect be a real-time one with zero lag.

The graph above (monthly) compares both versions of the builders index defined below against the Halifax index and Rightmove's asking price index, all rescaled to Index=100 in January 2004. It shows how well the FTSE-adjusted version of index works, and demonstrates the effectiveness of splitting sentiment into "property" and "stocks" components and then removing the latter (Combi-5 FTSE-adj). However, it should be noted that the comparison is made over the relatively limited period from 2001 onwards.

The builders indices are constructed as the total share price of the five builders relative to the total stock market and rescaled to Index=100 in January/2004 (Combi-5, 2571; FTSE, 4390).

Combi-5 Index = (TW + BDEV + PSN + WLB + BBY)
Combi-5 FTSE-adj = (TW + BDEV + PSN + WLB + BBY)/FTSE

Note 1. The series has been continued past 26th April 2007 when WLB was taken over by BDEV by replacing WLB with 1.92 times BDEV. This preserves continuity based on a ratio WLB/BDEV of 2123/1107 at that time.
Note 2. The index is compliled from prices averaged over each calender month; however, this means that the index for the most recent month may be subject to revision until that month's data is complete.
Note 3. The series has been continued past the BDEV rights issue on 20th October 2009 by replacing BDEV with 1.52=£2.56/£1.68 times the new BDEV share price.

Correlations after 2005 - Prices and Transaction Proxies

After 2005, although not before, the builders share price correlates well with transaction proxies for the housing market - this relationship held over the peak in Jan 2007, through the dip in Jan 2009 and so far to date. Although there is no guarantee that it will continue.

References