With all the news we’ve been bombarded with over the last month concerning the coronavirus, the stock market, and the government’s response. You may have missed a crucial piece of news that can have huge impacts on the real estate market and local economies throughout the United States.
I’m talking about the plummeting price of oil.
Sure, the stock market is a great indicator of the economic health of the United States and the global economy, but there’s actually a loose correlation between stocks and real estate.
However, oil prices can have a direct impact on local communities,
major cities, and entire states.
In this article, we’re going to go over the current situation with oil, due to the coronavirus, and the effects it could have on your home’s value.
Once it became clear that the coronavirus wasn’t going away anytime soon, the members of OPEC, led by Saudi Arabia, came together in Vienna, Austria to discuss the oil strategy they would use to combat the financial fallout from COVID-19.
The members of OPEC agreed to cut oil production down by roughly 1.5 million barrels per day. This would keep oil prices higher and more stable so that oil companies could remain profitable while the virus takes its course.
Russia, being entangled with OPEC due to their volume of oil
production, was expected to agree with the deal.
Then everything fell apart.
Russia, in efforts to prevent U.S. shale oil companies from increasing their market share, announced that they would not abide by the agreement. They then went the extra mile and stated as of April 1st, they would remove the restrictions on national oil production to compete with U.S. companies.
In response, Saudi Arabia and OPEC reversed their position. Saudi Arabia declared that they would start producing an additional 10 million barrels/day and grant price cuts to their most preferred customers, thus, launching a price war with Russia.
The problems with this:
- Oil markets are already near capacity and now it’s being flooded with more oil.
- Due to the travel industry being the hardest hit by COVID-19, oil consumption is at all-time lows.
- Lower consumption = lower demand = lower prices = little-to-no profits.
After a two-week-long price war, Saudi Arabia has effectively positioned itself to dominate the next 10 years of oil production, even surpassing the United States.
By keeping prices low ($15-$30 per barrel), Saudi Arabia’s largest
producer, Aramco, can out-earn U.S. shale oil companies, who have increased costs
of producing oil ($23 per barrel vs $8).
Over a sustained period, this will bankrupt U.S. oil companies.
So, how does this pertain to the real estate market?
Energy-Focused Economies Will Get Hit Hard
The primary oil producers in the United States are Texas, Oklahoma,
New Mexico, Louisiana, and North Dakota.
While oil doesn’t directly affect the real estate market, it does
create a domino reaction that can reach the real estate market over time.
The United States is the largest oil producer in the world as of
the coronavirus outbreak. When global oil prices drop, the U.S. must follow
suit to stay competitive.
This causes oil companies in the United States to lose profits.
When companies lose profits, they must reduce the number of employees they
This means layoffs.
With fewer employees, companies lower the volume of supply purchases to keep positive checking accounts. This causes the supply companies that provide the material, which include PVC piping, steel, plastics, etc., to take a financial hit. Now the supply companies start to lose profits and another round of layoffs follow. The cycle continues.
With these new layoffs, obviously, you have an unemployment problem.
When states like Texas have over 300,000 of their citizens employed in the energy industry, it’s not good news for an economy that has mortgage payments.
We wind up with a bunch of foreclosures that can drastically lower the property value of neighborhoods. Once sellers take their reduced equity somewhere else, they have to settle for lower-priced homes, which lowers the value of other neighborhoods, and the dominoes keep falling.
Suddenly, you have an entire city where property values have plummeted, equaling millions of dollars in lost wealth.
But does this affect everywhere?
Energy-Focused States vs Non-Energy States
Not every state in the U.S. relies on energy production. While sure, the effects of oil prices are felt at the gas pumps across the nation (Lower oil prices actually help the consumer by lowering the price of gas).
The real estate markets that get hurt the most are the ones in energy-focused states because that’s where the majority of layoffs will stem from.
While sure, the supply chain companies will face significant losses,
those supplies can be converted and sold to other industries.
Oil companies have one job. Extract oil.
They’re not convertible.
So, I would hedge my bets that if this oil crisis continues
without the U.S. putting its foot down and stopping Saudi Arabia and OPEC from
a hostile takeover of the oil industry. Then the real estate markets in Texas,
Oklahoma, Louisiana, North Dakota, and New Mexico will be hurt the most.
However, there’s more to consider.
Big Cities vs Small Towns
Let’s look at Houston, TX. One of the largest cities in the nation,
as well as one of the larger oil cities.
If the oil crisis continues, how bad does the Houston economy, in terms of labor markets and real estate markets, suffer?
Looking at the chart below, it’s hard to argue that the Houston economy is not built for sustainability.
Despite being a major energy-focused city, Houston has an extremely
diversified and balanced job market.
Keep in mind that the entire energy industry is not going to lay off all of its employees. Even if Houston lost 20% of its energy labor force (a very high number), they would still be well prepared for the economic fallout.
You wouldn’t see a huge reduction of wealth in real estate, compared
to a smaller town like Williston, ND.
Williston, a town that at one point, had over a third of its labor market employed in the energy industry.
A major oil boom back in 2010 brought people from across the nation to the Southwestern North Dakota town to take part in the profits oil companies were reaping. Come 2015, the oil boom was slowing down, and many employees found themselves jobless and displaced.
This led to stagnant growth in the real estate market.
To go even further, take a look at Williston’s labor market as of
Energy isn’t even the leading labor market now. It goes to show the effect oil boom-and-bust cycles can have on economies.
The Point in All of This
My point in this analysis is that the oil crisis could displace a
lot of smaller communities that rely on oil production for their economic stability.
If prices remain low and Saudi Arabia is able to gain control of the oil market for years to come, we might be on the verge of economic stagnation, or collapse, in these smaller, rural towns. Obviously, dragging down the real estate market along with it.
Let me know what you think of the economic crisis and how it could
be handled in the comments below.
If you’re an investor, obviously, I recommend against investing in big oil states at the moment. I can assure you that Asheville would be the better choice.