Monday, January 12, 2009

Borrowing from Technical Analysis: GTA Home Prices About to Cross Below EMA

With the release of new numbers by the Toronto Real Estate Board for 2008, I decided to borrow from a commonly used technical analysis metric for stocks, called the Exponential Moving Average or "EMA", and applied it to the average price of single-family homes in the GTA over the past forty plus years. A moving average takes the average of the prices for the past N periods and plots it on the graph against the current period's price. The Exponential Moving Average gives more weight to recent changes.

Moving averages provide a good comparison of current prices to the trend and is one of many indicators used to form an opinion as to whether an equity is overpriced or underpriced. A very simplified rule of thumb is: if the current price moves below the EMA sell and wait until the current price moves back above the EMA; then buy. This is a VERY simplistic rule of thumb and is not perfect, especially for volatile stocks, since it can produce false signals.

For real estate, the EMA could be a good indicator to use since prices are not as volatile as stocks (i.e. don't move up and down as frequently) and the future trend is somewhat easier to predict.

For the chart below, I used a three-year EMA to provide the trend as it seems to nicely model the up-trends and down-trends in average prices for single-family homes in the GTA.


As we can see, the average prices for the years between 1966 and 1989 were above the EMA, and would indicate that this period was a safe period to hold real estate, though prices did get crazy between 1985 and 1989. Between 1990 and 1995 average prices remained below the EMA, indicating a bad time to be holding real estate. From 1996 until 2008, the average prices remained above the EMA - once again, a safe period to be in real estate.

However, as we enter 2009, we seem to be on the cusp of another downtrend, if the last four months of 2008 is any indication, with prices falling as much as 10% and sales falling as much as 50%, compared to 2007 on a month-to-month basis. One would expect the average price for 2009 to once again fall below the EMA and will likely stay below for some time - not a great time to be holding real estate for the next little while (not until the average price touches or moves back above the EMA).

As mentioned earlier, the EMA is a very simplistic indicator but it can give a general rule of thumb as to when to hold real estate and when not to hold real estate.

3 comments:

  1. hi. do you have the data points for your chart available? or can you point out a place to get them from. THanks

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  2. The historical sales and price numbers can be found here: http://www.torontorealestateboard.com/consumer_info/market_news/mw2008/pdf/mw0812.pdf

    (the EMA can be calculated in a spreadsheet program like Excel)

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  3. I am wondering instead of average price, should you plot this using median? Don't know if there will be any difference, but I beleive median reflects better.

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