There have been a lot of questions about what effect the recent severe drop in crude oil prices will have on the real estate market, especially the markets in metro areas with larger concentrations of oil & gas-related employment such as Houston. In particular; what, if any, effect will it have on the apartment markets of Houston and other areas across the country?
Our Senior Economist KC Sanjay discussed this in one of our recent blog items (see http://www.axiometrics.com/blog/no-oil-panic-yet-apartment-data). His conclusion for Houston was that it will impact the market more if prices remain low for an extended period, but not as much as it would have in years past when Houston’s economy was less diversified.
The price of West Texas Intermediate (WTI) crude oil has dropped almost in half from its most recent peak of around $102 per barrel in June 2014. Lately, the price appears to have leveled off (or bottomed out if you’re an optimist) at around $52-$53 per barrel.
The most direct effect of lower crude prices is on employment at oil exploration and drilling operations, equipment manufacturers and other firms with more direct connections to oil. That means markets in West Texas, North Dakota, Louisiana and Oklahoma (and to a lesser degree, Houston) bear watching for decreased energy-related employment. Job creation has the strongest impact on the real estate market, and job losses can dampen demand for apartments.
Secondarily, the effect of lower prices could ripple through the economies of cities with higher energy concentrations, slowing overall growth in addition to suppressing job growth.
On the other hand, lower oil prices mean lower gasoline and fuel oil prices and that will definitely put more money in consumer’s pockets. In turn, they will have more money to spend in their local economies – boosting demand for goods and services, and perhaps spurring employment growth as well. In addition, some oil workers could return to other industries that are lacking skilled labor such as construction, manufacturing and engineering.
Is there a direct relationship between crude oil prices and apartment market indicators such as effective rent growth?
The chart above illustrates the historical price of WTI crude oil in comparison to the trends in effective rent growth for several metro areas in different parts of the country and with differing degrees of energy-related economic concentrations. At first glance, there appears to be a relationship between oil prices and rent growth with about a six-month lag. In other words, the peaks and valleys move closely together with oil prices turning about two quarters before effective rent growth.
One would be wrong, however, to conclude that oil prices drive apartment rent growth. The following table highlights the correlation coefficients between oil prices and rent growth for the charted metros above. With the exception of Austin, they all appear heavily correlated.
But a well-known maxim in statistics is that “correlation does not necessarily mean causation.” You could argue that Houston’s rent growth may be somewhat related to oil prices, but what of Miami, Nashville and Washington, DC? Their correlation coefficients are higher than Houston’s and no one could argue that they have high concentrations of energy-related employment.
So what explains the apparent similar movement of oil prices and effective rent growth? It could be that the cause or reason for the ups and downs of both series has been roughly the same: the economy in general. Oil prices react to the same supply and demand laws of economics that apartment rents do. Growing or recessionary economies have been the dominant reason for price movement for both crude oil and apartment rents.
Should we expect a decrease in effective rent growth to mirror the recent drop in oil prices? The current freefall in oil prices is a little more complicated than with past decreases. Global demand is slowing at a time when supply is surging. It is this glut of supply than is primarily causing oil prices to drop more than the flattening of demand. We are not in a domestic recession at present.
So no, apartment rents are not expected to follow oil prices down during this cycle, as they did in the past, but continued weakness in oil prices will begin to effect the general economies of energy-dependent metro areas, and thus their apartment markets, over a prolonged period of time.