November 2008

The Houston economy has been slowing all year, following trends in the U.S. economy, but with a cushion from strength in global oil markets. In October, for example, the unemployment rate was 6.5 percent in the U.S. versus 5.7 percent in Houston. But with the U.S. economy sliding into recession, Houston suddenly finds its safety net shrinking. Oil prices have dropped by two-thirds since last summer.

Just how hard Houston’s landing might be depends on how much further and how fast oil prices decline in coming weeks.

Retail and Auto Sales
Retailers find sales are meeting expectations, but expectations are set very low. Sales are generally running well below year-ago levels. Concern about a calendar-shortened holiday season runs deep but varies by specialty. All respondents see this as a family-oriented, no-frills holiday season, with such gifts as practical clothing winning out over jewelry and big-screen television sets.

Through September, auto sales were off about 12 percent. They plunged 41 percent in September, due largely to Hurricane Ike. Sales remained weak in October and early November, this time because consumers were caught up in financial storms and tight credit conditions.

Housing
Hurricane Ike also knocked down Houston home sales in September, compared with 12 months earlier. Sales were off 30 percent for existing homes and 55 percent for new homes. October existing-home sales recovered to only 20 percent below year-earlier totals, even counting some closings held over from September. Respondents indicated that financial and economic concerns had reduced consumer interest in recent weeks and significantly slowed traffic through new homes. The median existing-home price is off 2.7 percent in 12 months.

Energy Prices and Refining
The price of light crude was near $90 per barrel in early October but fell below $50 by mid-November. Oil product prices have fallen along with crude oil, with on-highway gasoline prices down 40 percent and diesel down 30 percent.

Refiners have largely recovered from Hurricane Ike and have operated in recent weeks at 87 percent capacity utilization, down about 2 percentage points from the same time last year. Product prices have fallen more slowly than crude prices since early October, allowing margins to widen from $8–­9 per barrel in August and September to $13–14 per barrel in recent weeks.

Natural gas prices have been steady at around $6.50 per thousand cubic feet, held in place by the approach of winter and uncertainty over the seasonal surge in demand. At the same time, there are downward pressures on gas prices that will quickly assert themselves if winter is mild: falling oil prices, ample inventories, better-than-expected Canadian supplies, higher U.S. supplies (up 6 percent from last year) and weak industrial demand.

Petrochemicals
Prices of a wide range of petrochemical and plastic products have fallen along with the price of energy feedstock. Declines have been steep because of the pullback in energy prices, but weakening economic conditions in recent weeks have added to the momentum. In September and early October, ethylene markets, for example, appeared to be more or less balanced after Hurricane Ike and producers were seeing good margins. Weaker economic conditions are now pressuring selling prices and margins for ethylene and other products and are forcing plants to reduce production runs or close to work off excess inventories.

Oil Machinery and Oil Services
Oil services and machinery companies are seeing the leading edge of a downturn in drilling activity. So far, the rig count has paused and declined modestly. Some layoffs have been reported. Manufacturing is staying busy, with little reduction visible in backlogs.

Capital spending cuts have been announced by a number of producers, both for this year and 2009. Smaller operators are under pressure from a lack of credit, leaving them with rapidly shrinking cash flow.

The extent of cuts in the rig count will depend on how far and how fast energy prices fall. Service companies would like to avoid layoffs and are making price concessions to keep people working. They know oilfield skills are scarce and want to avoid paying severance, losing investments in training and finding themselves short of skills when recovery comes.