June 2007

A slower U.S. economy and a pause in domestic drilling have taken the pressure off the Houston economic expansion, with growth ebbing across the board in the first half of 2007. Despite slower growth, however, labor markets remain extremely tight for workers at every skill level, from scientists and engineers to entry-level salespeople. The local unemployment rate is at its lowest level since 2000. Some real estate markets, such as office and industrial, are still trying to catch up with past growth.

Retail and Auto Sales
Retail sales have turned sluggish, running well below last year’s and even further behind optimistic plans set out by most stores for 2007. Department, home furnishings and specialty stores have all followed this trend to slower sales. Hiring continues, with summer part-time workers providing some temporary relief to a very tight labor market.

Houston auto sales continue to buck national trends, with sales up a robust 7 percent through the first four months of the year.

Real Estate
Houston-area home sales hit a plateau in the first half of 2007. Existing-home sales through May are basically flat compared with the first five months of 2006. New-home sales were down early in the year, but sales had been unsustainably high 12 months earlier. Both new and used markets show particular weakness in sales of lower-priced homes, suggesting that the subprime issue may be taking a toll locally.

Other real estate markets remain on trend. Solid improvements continue in the office market, the industrial market is strong, and apartment rents and occupancy have shown marginal gains. The high level of apartment construction in a weak market remains a concern.

Oil Services and Machinery
Oil producers continue to keep a wary eye on natural gas markets. Late cold weather pulled natural gas inventories back into a much better balance, but they remain near 20 percent above normal. Gas price held near a solid $7.50 per thousand cubic feet; but with weather the key to gas prices in coming months—heat-induced air-conditioning loads and hurricanes—caution about future cash flows kept the domestic rig count flat and near 1,750 working rigs. Meanwhile, West Texas Intermediate remained in the $62–$66 range, with refiner demand weak and domestic inventories growing.

Oil services firms report an ongoing split between strong international activity and weaker domestic activity. The domestic price leverage of the past two years continues to slip away in areas such as day rates for land rigs and pressure pumping. Hiring has downshifted sharply in the United States, although it continues overseas.

Petrochemicals
Domestic chemical demand is showing only incremental improvements, after being hurt by the slowdown in manufacturing, including housing- and auto-related production. Export demand has been a big plus for products such as ethylene and its derivatives, helped by cost advantages for natural gas, a weaker dollar and a surging global economy. Margins are generally good in the industry but below those enjoyed in 2005 and 2006.

Refining
Brisk demand for gasoline—led by the kick-off of the summer driving season—combined with low-capacity utilization by refiners to push gasoline prices to record highs. The average retail price of $3.26 reported for the week of May 21 was an all-time high, even adjusted for inflation. Capacity utilization hovered around 90 percent because of a prolonged maintenance season for refiners, partly dictated by last year’s limited maintenance in the wake of the hurricanes. Labor and skill shortages complicated scheduling and completion of routine maintenance, and a rash of unplanned outages further compounded the problems. Refiner margins, already strong, surged to very high levels.