Oil price will go up and affect the real estate investment

Global economic movement, changes in exchange rates, and changing demands for oil

are indicating a probable rise in the oil price in the forthcoming years. If your business is

heavily depended on the oil price movement then it would the best strategy for you to

prepare a plan managing your business risk. In their article Baumeister and Kilian (2016)

have identified three major reasons for oil price fluctuations that are oil producing nations

production policy, changes in the global business cycle, and changes in demand for oil.

The current market conditions and strategies of oil producing nations are suggesting that

a steady growth can be observed in the oil price index in the coming years. The real estate

investors should expect to receive a positive return on investment (ROI) from the

predicted oil price hike. Although increased oil price would plunge the demand from the

real estate industry initially but the industry is expected to be benefitted in the long run.

While investing in the real estate industry, geographic location should be considered as

an important factor for analyzing investment attractiveness.

With the increase of oil prices people will have less buying power which will have negative

impact on the real estate spending, and it will slow down the demand for new housing for

a short period of time, but the situation should change gradually. There is a positive effect

of oil prices on oil related and oil substitute sectors, a negative effect on oil using sectors,

and not a significant effect on non-oil related sectors (Broadstock & Filis, 2014). Oil prices

hike would initiate higher oil production and it would create new jobs in the market, and

with the increased demand for human resources will initiate migration to the oil producing

states. More people in the cities will increase the demand for housing, and the real estate

market demand will be increasing slowly. Despite the fact, real estate industry is non-oil
related sector it represents a significant impact of changes in oil price, particularly the

impact is substantially positive in the oil producing area. But the cities with oil using

industries should display quite the opposite scenario, for instance Sanghai, China is a city

where we can find many factories that are producing various types of products- and these

factories are largely depended on oil. Also, the real estate industry of that area should

depend on the best performance of those factories, so when the oil price will be going up

those factories will be experiencing increased cost of production, which will hinder the

growth of industries. As a result, real estate industry of Shanghai, China is expected to

experience a gradual decline. It can be concluded that the real estate industry of China

will be declining with the gradual increase of oil prices as Chinese economy is heavily

depended on the oil using industries.

The most interesting fact is, if the real estate industry of china declines then it is expected

that the renminbi will be appreciated. Miao, Zhou, Nie, & Zhang, (2013). measured

industry responsiveness towards the exchange rate movement of renminbi and found a

negative coefficient between real estate industry and renminbi exchange. If we analyze

the condition from an investors perspective who is thinking of investing into the Chinese

real estate industry, we find two different scenarios- an investor from China considering

real estate investment and another investor from US considering investment in Chinese

real estate. For the investor in China the increase in oil price will reduce the return on

investment (ROI) from the real estate industry but the appreciation of renminbi would

increase the buying power of the investor, which would essentially reduce the value at

risk for the investor. On the other hand, the US investor who is considering an investment

in the Chinese real estate industry will have a far negative impact of oil price hike. Oil
price hike will initiate a decline in the real estate industry in China resulting a negative

return on investment for the US investor, moreover the appreciation of renminbi would

increase the value at risk, so the risk of investing in Chinese real estate industry for an

US investor will have a significant negative impact on the investors portfolio. The majority

of existing literature points out the negative relationship between crude oil price and US

dollar exchange rate (Wu, Chung, & Chang, 2012).

The optimum investment solution for the problem arise from the oil price hike for investing

in the real estate industry would be cross boarder investment for the investor of China,

and the US investor should consider investing in the real estate industry of US. It is

discussed earlier how oil price hike will have positive impact on the real estate industries

of different oil producing areas. So, if the Chinese and US investor both choose to invest

in the real estate industry in an oil producing estate of US then both the investors will

have a positive ROI from the investment. As the value of dollars will decline when the

prices of oil increase so the Chinese investor will have an exposure to the currency

exchange risk, and the investor should choose a hedging policy to avoid the risk of

currency fluctuation. The Chinese investor can choose to include gold in his portfolio in

order to hedge against dollar exchange risk. Ciner, Gurdgiev, & Lucey (2013), found a

negative relation between gold and dollar, also they regarded gold as anti-dollar

instrument. In brief, the oil price hike will have a significant impact on the real estate

investment, and nature of the impact will be solely depending on the investment location,

also the economic dependency on oil of the investors country plays an important role.
References

1. Baumeister, C., & Kilian, L. (2016). Forty years of oil price fluctuations: Why the
price of oil may still surprise us. The Journal of Economic Perspectives, 30(1),
139-160. Retrieved from
https://www.econstor.eu/bitstream/10419/125831/1/845563580.pdf
2. Broadstock, D. C., & Filis, G. (2014). Oil price shocks and stock market returns:
New evidence from the United States and China. Journal of International
Financial Markets, Institutions and Money, 33, 417-433.
http://eprints.bournemouth.ac.uk/21569/1/JIFMIM_post-print.pdf
3. Miao, B., Zhou, S., Nie, J., & Zhang, Z. (2013). Renminbi exchange rate
exposure: evidence from Chinese industries. Journal of Chinese Economic and
Business Studies, 11(4), 229-250.
https://www.researchgate.net/profile/Si_Zhou2/publication/259184637_Renminbi
_exchange_rate_exposure_evidence_from_Chinese_industries/links/00b7d52a3
98d1e6c36000000.pdf
4. Wu, C. C., Chung, H., & Chang, Y. H. (2012). The economic value of co-
movement between oil price and exchange rate using copula-based GARCH
models. Energy Economics, 34(1), 270-282.
https://ir.nctu.edu.tw/bitstream/11536/15733/1/000300753300028.pdf
5. Ciner, C., Gurdgiev, C., & Lucey, B. M. (2013). Hedges and safe havens: An
examination of stocks, bonds, gold, oil and exchange rates. International Review
of Financial Analysis, 29, 202-211.
http://www.academia.edu/download/35455717/Hedges_and_Safe_Havens_1610
2012.pdf