Archive for August, 2010

Hedging the Value of a Home with S&P/Case-Shiller Futures

I’m currently looking for a rental house in Fairfield County, CT, but have been totally disgusted with the rents… they are high enough that it currently makes more sense to buy (in terms of a basic time-value of money calculation)… if you assume that you’re going to stay there for a few years and housing prices won’t depreciate further in the meantime.

Unfortunately, I’m not comfortable assuming that house prices will not drop further, so I looked into the idea of hedging my expected exposure to the New York housing market with a short position in futures on the S&P/Case Shiller New York Real Estate Index.

These Futures contracts trade on the CME with a notional value of $250 per point. With the index currently trading at around 170, each contract is enough to hedge $42,500 worth of housing in Fairfield County (which is included in the calculations of the New York index.) So a $425,000 generic house in the New York area could be hedged with 10 contracts. (In fact, you’d probably need 20-30% more than that, because profits and losses on the futures would be taxable, while capital gains and losses on the house would not be, at least up to a limit of a $250,000 gain if you had lived in it 2 out of the last 5 years.

The problem lies in market liquidity. It currently looks like the longest dated futures are trading at 170, which means that they are predicting the market will not rise or depreciate significantly over the next four years (although shorter-term contracts are predicting a short-term decline followed by a recovery. But to hedge that $425,000 house if you’re subject to a 30% tax rate, you would need about 13 contracts. As I look at the quotes today, the current bids for even the closest November 2010 contracts are for only 3 contracts, and the bid-ask spread is 10 points, or $2500 per contract.

There is no bid for the November 2014 contracts that I’d be most interested in, meaning that I can be confident that my order to sell would move the market significantly. Assuming unrealisticly optimisticly that an ask for 13 November 2014 contracts moved the market only as much as the spread on the closest-in contract, that means a transaction cost of 10 x $250 x 13 = $32,500, which is about a full year’s rent in a comparable house.

I’m going to have to file this one under "it seemed like a good idea at the time."

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Drivers’ Rising Price Elasticity

A recent paper from Todd Litman at the Victoria Transport Policy Institute shows that drivers have become more sensitive to changes in the price of driving (and gasoline) in recent years.

Recent estimates of the long-run elasticity of driving are between -0.4 and -0.6, meaning that a 10% increase in the cost of driving should decrease miles driven by 4-6% over time.

There are several policy implications of rising elasticity:

1. People are more able to adjust their driving habits in response to changing prices, so pricing measures such as gas taxes, parking fees, and Pay-as-you-drive pricing are becoming more effective, and they are also more fair to the poor, who are likely to reducing driving more with an increase in price.

2. Vehicle efficiency standards will be less effective at cutting gasoline consumption due to the rebound effect: as the cost of driving drops with increased vehicle efficiency, people will drive more, partly offsetting the gasoline savings.

You can read the full paper here:

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Renewable Energy World Podcast: The Renewables Gap

As a long-time listener to the Stephen Lacey’s weekly podcast, I was happy to join in as he takes an in-depth look at the Renewables Gap: the question of where the energy is going to come from to power the necessary transition to a clean energy economy, an issue I looked at in Managing the Peak Fossil Fuel Transition.

I’m in great company on this podcast, so if you don’t tune in for me, you might want to know what Bill McKibben has to say about it.

You can download or listen to the podcast here.

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The ERoEI of Energy Efficiency

In previous articles, I’ve often claimed that the Energy Return on Energy Invested (ERoEI) for energy efficiency measures is much higher than the ERoEI for Renewable or fossil energy generation. This was based on the logic that a high ERoEI is needed to sustain the high financial returns from energy efficiency. Unfortunately, there are few studies of the energy return on energy efficiency, so most of my evidence was anecdotal.

No longer. I was just reading the 2009 Annual report for Green Building company PFB Corporation (PFBOF.PK.) PFB manufactures SIPS (Structural Insulated Panels) and ICFs (Insulated Concrete Forms) and in their sustainability report, they found that the energy saved by their insulation over 50 years would be approximately 130 times the energy used in its manufacture (see chart.)

Since ERoEI is a flawed measure, I also calculated the Energy Internal Rate of Return (EIRR), using both 25 year and 50 year lifespans… they worked out to be 262% and 264%, respectively. For comparison, the highest EIRR I’ve found for a energy generation technology is 205% for wood cofiring. The EIRR for a wind turbine is around 84%, and a combined cycle natural gas plant has an EIRR about 164%.

In otherwords, insulation is a slam-dunk when it comes to energy economics. That’s no surprise, but it’s nice to have some numbers, so we have a better idea of just how good a slam dunk it is.

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