According to a March 1st report from Goldman Sachs Credit Strategy Research, while lower oil prices are generally a boon for consumers and a net positive for real estate markets, lower prices also frequently have a negative impact on real estate markets in areas where the economy is dependent on oil.
According to Charles P. Himmelberg and the GS team, the cities most likely to be hurt by low oil prices share the same profile: metro areas with a high percentage of employment and investment in the energy sector. A high percentage of these cities are located in the south-central US, including major O&G hubs Houston, Dallas, Tulsa, and Shreveport. Other cities of note with high employment/investment in the energy sector include Bakersfield, California and Denver.
History lesson from the mid-80s
The GS report begins with a history lesson. The analysts explain how the major decline in oil prices in 1986 to massive mortgage losses. Oil prices dropped from $32 to $11 per barrel, a 68% decline, during that year. That soon led to major busts in several housing markets: home prices fell by 24% in Houston and by 36% throughout Alaska.
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Moreover, write offs on both commercial and residential loans led to a series of bank failures across the Southwest US. That said, house prices outside of the oil- sensitive areas moved up substantially. The lesson is the drop in oil prices in the mid-1980s may have Southwest housing markets, but other regional markets, particularly the Northeast, actually enjoyed real estate booms. The analysts note that “these housing booms were not caused by but were assisted by low energy prices.”
Which real estate markets benefit most from low oil prices?
The housing markets that stand to gain the most with oil prices not moving up much for several quarters is a little tougher to figure out. Himmelberg et al. suggest the list is likely to include cities that: “(1) metros with low median home price (since the savings on fuel will represent a larger fraction of the price of the home); (2) metros with low median income (since the savings on fuel will represent a larger fraction of income); (3) metros with long average commuting distances; (4) metros which experienced large house price gains in the 1980s, following the decline in oil prices; (5) metros which experienced large house price declines following the large run-up in oil prices from 2001 to 2008; and (6) metros which currently appear to be fairly-valued or under-valued according to our metro level house price model.”
Of note, the GS analysts are projecting a U-shaped recovery for oil prices, where prices drop close to $40 before moving up to $65 a barrel by the end of 2015. Using historical data as well as current house price valuation metrics, they screened for cities that could see a real estate boom given low oil prices for a year or more.
The results highlight that cities across the Midwest (including Flint and Detroit in Michigan and Cleveland and Akron in Ohio) as well as several metros in Southern California could see real estate benefit from low oil prices. Obviously many factors impact real estate markets, but these cities look to benefit the most from longer-term low oil prices. Himmelberg and colleagues also note that lower tier markets within these cities probably have more upside than higher dollar neighborhoods.