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Analytics, 25 April 2023

What Is Case-Shiller Index And Why Is It Important

In a surprising turn, U.S. home prices increased in February, ending a streak of seven months of declines, as buyers returned to the market.

According to data released on Tuesday, the S&P CoreLogic Case-Shiller U.S. National Home Price index rose by 0.2% in February compared to the previous month. The index also showed a 2.0% annual gain in February, which is lower than January’s recorded 3.7%. Although the index remains 4.9% below its peak in June 2022.

The 20-City Composite index, which tracks prices in the 20 largest metros, reported a 0.1% seasonally adjusted increase in February compared to the previous month and a 0.4% rise compared to last year. Bloomberg data showed economists expected a 0.35% decline for the month and a 0.10% drop from the previous year.

In this article we discuss why Case-Shiller Index is important to the investors and economy.

The US economy is greatly influenced by the cost of housing, making it essential to monitor housing prices over time. To accomplish this, the Case-Shiller Index has been developed. By tracking the fluctuations of housing prices during economic expansion and contraction, economists can improve their predictions of future trends. However, what precisely is the Case-Shiller Index and how does it function?

What is the Case-Shiller Index?

The Case-Shiller Index is a prominent method for monitoring residential property prices in the United States, established by economists Karl Case and Robert J. Shiller. It keeps a tab on the fluctuation of single-family home prices in all nine US census divisions, with monthly calculations and quarterly updates. It’s worth noting that the Case-Shiller Index is not a single entity, but instead, it comprises four different indexes that track home prices. The most well-known index is the Case-Shiller US National Home Price NSA Index, which tracks national prices.

However, there are three other indexes that also track home prices:

How does Case-Shiller Index work?

At its core, the Case-Shiller Index employs the repeat-sales approach to compute home prices. This involves tracking when a property is purchased and sold and calculating the difference between these two prices. However, new-build properties are not included in the index, and only resold properties are considered. It’s worth noting that not all resales are included in the index. For example, sales between family members or foreclosed homes are excluded since they don’t reflect typical home prices accurately. Additionally, properties that are sold more than once in a six-month period are also excluded. The index only factors in arms-length transactions where each party seeks the best deal for themselves.

Whenever a property is sold, the Case-Shiller Index team records the sale and tracks down when the property was last purchased. This provides two figures, and the price rise is the difference between the last purchase and the new selling price. These price changes are plotted and released on the various indexes, with the data normalized to 100 based on the value of the home in January 2000. This allows for easier price comparison over time.

The Case-Shiller Index assigns various weightings to each figure, but the details of how the weighting works are not relevant to this article. The outcome is an index that indicates how the prices of properties in the US have changed over time. This provides insight into whether prices are trending upwards or downwards, and it can lead to changes in government, lending, and banking policies. Investors and economists closely monitor the Case-Shiller Index to understand the state of the housing market and its relation to the economy.

Why is housing important to the economy?

The relationship between the housing market and the economy is close. Economists often discuss house prices when there are changes in the economy because they can provide insight into the economy’s strength. According to the National Association of Home Builders, the housing market contributes up to 20% of the gross domestic product (GDP).

The reason for this connection is that most homeowners have a mortgage, and if house prices fall, they may owe more than their house is worth. This situation can lead to people stopping mortgage payments, resulting in banks foreclosing, a slower housing market, and fewer new homes built, eventually leading to job losses in the construction sector. This, in turn, slows down the economy as people consume less due to less or no income.

Furthermore, economic crises often result in job losses that put the banking system under pressure. Since a home is usually the most significant purchase, people need to feel secure about their job and the economy to invest in a home. People may be hesitant to buy a house if the economy slows down or if there is uncertainty about its future.

On the other hand, rising house prices can provide homeowners with equity that they can use to pay off debt, pay for college, or other expenses. This can boost consumer spending, which is beneficial for the economy.

When house prices are stable, new housing is usually built, and people have the money to spend. This is a positive factor for the economy because companies invest in land and building materials, and thousands of people are hired to work, leading to economic growth.

Two Alternative U.S. Housing Price Indexes

House Price Index (HPI)

The House Price Index (HPI) is a quarterly publication produced by the U.S. Federal Housing Finance Agency (FHFA), which was established in 2008 by the Housing and Economic Recovery Act. Similar to the Case-Shiller Index, the HPI uses a repeat sales method to track changes in home prices, and covers 400 metropolitan areas in the U.S. with transaction data dating back to 1975.

The FHFA produces multiple types of HPI indexes to cater to different market segments, including the Purchase Only HPI, the All-Transactions HPI, and the Expanded-Data HPI. The Purchase Only HPI is the most commonly referenced in the media, while the All-Transactions HPI includes refinancings in addition to home purchases, and the Expanded-Data HPI incorporates information from public records and FHA mortgages, expanding the data set to cover homes priced above the conforming loan limit for FHA mortgages.

The FHFA also offers alternative indexes for practitioners and researchers, such as the Distress-Free HPI which excludes foreclosures and short sales, and the Annual HPI which provides granular data for over 2,000 counties, 19,000 ZIP codes, and 50,000 census tracts.

Loan Performance Home Price Index

CoreLogic produces the Loan Performance Home Price Index (HPI) which utilizes the repeat-sales pricing methodology. Covering over 7,100 ZIP codes, 930 Core Based Statistical Areas (CBSAs), and over 1,300 counties, the CoreLogic HPI is a comprehensive measure of home prices in the United States.

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