According to the Case-Shiller national index, US home prices peaked in the second quarter of 2006 and had fallen by 10% by last year’s final quarter. By contrast, the Office of Housing Enterprise Oversight (OFHEO) purchase-only index was essentially unchanged over the same period. Why the divergence?

Both indices are based on a repeat-sales methodology. They use different underlying data – deed records of residential sales transactions in the case of Case-Shiller and mortgages purchased by Fannie Mae and Freddie Mac in the case of the OFHEO – but the most likely explanation for the divergence is that the Case-Shiller index is value-weighted, so is more affected by price movements of expensive housing.

This difference in construction implies that Case-Shiller should be a better guide to changes in aggregate housing wealth but OFHEO is more representative of the price experience of the typical home-owner.

The chart below compares the two indices over a longer time-frame. Recent weakness in the Case-Shiller index is the counterpart of much greater strength during the boom period. Case-Shiller climbed 69% in the five years to the second quarter of 2006, while OFHEO was up 47%. Even after its recent hefty drop, Case-Shiller is still ahead of OFHEO since the latter’s inception in 1991.

Bears argue that the loss of wealth implied by Case-Shiller will prompt significant consumer retrenchment. If OFHEO is correct in suggesting the average home-owner has so far experienced only a modest decline, however, the effect could be smaller than feared. OFHEO would also suggest a lower estimate of the number of households currently in negative equity.