When asked about the perception of the Texas economy, many observers sum it up in three words: oil and gas. And because three metro areas make up the bulk of the state’s economy, many observers focus on Dallas, Houston and Austin when concerns surrounding energy production, sustainability and pricing surface. However, those metros have diversified their economies, making them less dependent on oil and gas. As a result, the smaller cities that are still very reliant on the oil and gas industry are often overlooked. Two of the most prevalent are Midland and Odessa. Considered the epicenter of hydraulic fracking, Midland-Odessa’s economy is no stranger to oil’s boom-bust nature or the chain reactions that follow.
Following the Great Recession, the economy struggled to rebound from the toll that the downturn took on employment, output and productivity. But Texas followed a different path. Bolstered by historic oil and gas expedition brought by new hydraulic fracking technology, the Texas economy recovered more quickly in other states. With the Permian Basin playing a key role in the state’s oil and gas production, the Midland-Odessa region led the state and nation in several economic gauges such as unemployment, median income and output growth.
Although these two West Texas markets are small compared to Houston, Austin and Dallas, growth across Midland-Odessa’s economy overshadowed those larger metropolitan statistical areas (MSAs). While rig and drilling permit counts moved higher in Midland-Odessa, families relocated there for the opportunities provided by black gold. As a result, Midland-Odessa’s population increased 13% and the economy gained 42,400 jobs from 2010 through 2014, spurring demand for housing. Historically an undersupplied housing market, Midland-Odessa’s need for flexible living arrangements led to stunning levels of apartment rent growth. That caused Midland-Odessa to become Texas’ most expensive apartment market, with average effective monthly rents in the region topping those in Austin, Dallas and Houston. Operators in Midland-Odessa pushed rents an average of 11.4%, or roughly $105, per year from 2010 through 2014, topping even the Northern California Bay Area’s performance over that stretch. The fruitful returns caught investors’ attention, and apartment development followed.
But how times have changed since mid-2014. The price of West Texas Intermediate crude has slipped more than 50% from its $100 highs last summer. Given the energy sector’s boom-bust nature, it’s not abnormal to see large drops in oil prices give way to declines in Midland-Odessa real estate prices and overall employment. But those drops are not usually immediate. There’s a time lag between movement in oil prices and movements in the local employment base. As the oil and gas industry is under downward pricing pressure from global overproduction, labor across the industry already feels the effects of declining prices. The magnitude of the impact hasn’t hit other employment sectors in Midland-Odessa – yet.
Through the first six months of 2015, Texas recorded nearly 74,000 layoffs, the most of any state, with cost-cutting and restructuring measures across the energy sector as a key catalyst, according to Challenger, Gray & Christmas, a global outplacement consultant. Over the same period, Midland-Odessa added a total of 500 nonfarm jobs, a job growth level which is roughly 93% below that seen in the first half of 2014. Driving the slowdown in the region’s overall growth numbers, Mining, Logging and Construction lost 800 jobs year-to-date through June 2015. By comparison, that sector added 3,000 jobs in the first half of 2014. With high-paying oil and gas in the red so far in 2015, growth in other employment sectors has picked up to keep the metro’s overall employment change in positive territory. That pick-up was led by lower-wage employment such as Leisure and Hospitality Services.
The thousands of pink slips being issued to higher-paid oil and land men has eroded fundamentals in the existing apartment base. Lease renewal rates are trending downward, slipping roughly 20% in the first six months of the year, even as operators offer lower rents for renewal leases. Over that time, operators lowered rates on a new lease more than 28% in addition to the 11.6% decline in rates for apartment renewals. Since 2014, the apartment supply grew 6.8%, compounding problems for apartment market fundamentals overall.
Despite recent job growth, there has been lackluster demand for the higher-priced new rentals, leading to an occupancy decline over the last year. Potential renters of the new apartment inventory would need a high wage to afford some of the Lone Star state’s most expensive rents. Operators have resorted to slashing rents in an apparent effort to slow occupancy loss. Revenue loss has become intense as the sticker price of an apartment dropped nearly 16% for year-to-date June 2015. As more energy labor leaves the Midland-Odessa region, so will the need for housing that was spurred by the influx of oil and gas employment.
The enormous impact that oil and gas has across the Midland-Odessa region is undeniable. New investment in rental housing within oil-dependent economies will likely decline until global energy markets show stability. Midland-Odessa has now shifted to being an unbalanced apartment market, with even more units on the way. The problem of oversupply will persist in the near future. Until the current construction cycle is complete, the record rents seen recently should continue to feel downward pricing pressure. The price declines will remain supported by lower occupancy as labor growth slows and high-paying jobs continue to leave.
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