Tuesday, February 17, 2009

Tough sell for Australian property derivatives

By Eriko Amaha (Reuters):

Turbulent markets and an innate distrust of new financial products may dampen enthusiasm for Asia's first listed residential property derivatives set for launch in Australia this year.

The Australian bourse operator, ASX Ltd, is slated to roll out six contracts in May or June, allowing bets on the Australia All Dwellings Index and on home price indices for Sydney, Melbourne, Brisbane, Perth and Adelaide.

The launch comes as average home prices in Australia slipped 3.3 percent in 2008 after rising five-fold over the past 20 years, partly due to rapid immigration.

Some experts forecast double-digit drops in home prices this year, although a housing shortage persists and annual rental growth rate hit a 20-year high of 8.4 percent in 2008.

In calmer times, declining home prices would have boosted demand for derivatives as a hedging mechanism. But caution rules against such securities today, after they were instrumental in bringing some large companies, such as U.S. insurer American International Group , to their knees. "Investors are not keen on new products in the current environment, especially if it is derivatives and related to property," said Luke Hartigan, senior investment analyst at Colonial First State Global Asset Management.

ASX's products, which are still awaiting approval from the securities regulator, the Australian Securities and Investments Commission (ASIC), also face other challenges.

These include attracting enough market-makers and questions about the reliability of the property indices.

"There is a long lag in the gaining of data on actual sale transactions around the country," said Louis Christopher, head of property research for investment research house Adviser Edge.

BIG POTENTIAL

Even in the United States, listed residential property derivatives have struggled. The notional value of housing futures traded on CME Group Inc dropped to $50.5 million in 2008 from $360.1 million in 2006.

ASX General Manager Ken Chapman is confident there will be sufficient interest for the new products.

"One problem with the asset class is the expense of getting in and out. ASX's property index contracts will be very cost-competitive from that perspective," he said.

The new instruments let investors take positions on a A$3 trillion residential market without having to actually buy a house or apartment, which would involve paying costs such as stamp duty and the hassle of renting out.

The products may take off after financial markets stabilise, said Hartigan of Colonial First State.

In a country where a typical home could cost more than seven times an average household's annual disposal income, retail investors may be drawn to invest, some experts said.

Investors will be able to buy or sell the contracts after paying an initial margin. An investor who expects the property index to go up will take a position similar to a landlord, paying interest, or the cash rate, on the value of the contract plus an open interest charge, and in return would receive rent.

Someone who expects the property index to go down takes a position similar to a tenant and would pay that rent. When the ASX marks investors' positions against the index, a long position would gain a variation margin if the index goes up, while a short-seller would gain a margin if the index falls.

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