Like the oil fields in North Dakota. When they were booming there was a ton of economic activity. But a wide ranges of things could happen that decimated the economy there, and thats what happened. Oil prices dropped enough that production dropped, slowing the local economy.
During the boom in North Dakota, in oil towns apartments were going for prices similar to Manhattan or San Francisco, $3000+ for a small place. Lots of new apartment buildings were constructed. But now those buildings probably can’t find renters because the demand isn’t there anymore. People invested in housing when demand was high, and because the oil industry wasn’t stable the demand has dropped.
And I’m guessing a lot of businesses sprang up, but again now that the oil boom isn’t as intense there isn’t as much of a market.
Since investments in businesses, housing, etc. requires many years just to break even, let alone turn a profit, how exactly do businesses invest in regions where there is a boom but there is no telling how long the boom will last?
Do businesses just not invest? Are there special kinds of investments that can be pulled up and moved out when the business goes down (I know for housing you have trailer parks and campers rather than permanent homes for example. Or food trucks rather than restaurants).
How does it work with political instability? if a nation seems like it might undergo a coup, or have nationalization, etc how does a business invest knowing it can’t predict what’ll happen 5+ years down the road?
Having money doesn’t mean you’re smart. Investing is, to a large extent, just gambling and if you gamble wrong then you’re just plum out of luck. And even a smart person is liable to get it wrong sometimes. Or, sometimes, the reward of getting it right simply outweighs the risk of getting it wrong. If you can sextuple your money in five different places, each of which has a 40% chance of panning out, you’re still likely to come out ahead so long as you invest in all of them. You might completely bust, but maybe you can afford it or maybe you just like the rush and you’ve gotten lucky until today.
That said, there could be some other things going on:
The oil company might have offered to put up half the capital, because they need the workers. The risk is thus halved.
A property developer might spin a bunch of lies to potential investors, telling them that there’s enough oil for 60 years or that the town has a big program to dump oil money into interesting in cybertech and diversifying the local economy (when really they don’t). The deal is that he builds everything, takes the cost of construction, they split ownership, and cash out as they feel like doing so. If the investors don’t do the due diligence (as said, not all people with money are smart) then it doesn’t matter that the numbers they were given all added up, the numbers weren’t real. So the developer builds a bunch of buildings, gets paid for all the work, and he’s all in the green. What happens from there is the problem of the owners.
My assumption would be that there’s a story behind every building that’s slightly different. In a few cases, someone will have made some money - certainly the oil company will. But mostly it will be a bunch of stories of how people came to make a bad decision and a few cases of people sacrificing a few dollars because they got the oil company, the local government, etc. to put up the majority of the money. They’ll be out the money, but they won’t be too shocked about it and the chance of failure was a calculated risk so they’re not hurting at all. Unfortunate, but other things will have panned out that covered for it.
It’s said that many of the biggest fortunes of the California gold rush were made not by prospecting, but by selling shovels and foodstuffs to the prospectors!
As mentioned briefly in a current IMHO thread, both the U.S. and China have underwritten huge loans to developing countries which, even if stable, would have great difficulty repaying the loans. These loans had some geopolitical motives.
Howard Hughes’ father made his $millions, not by selling oil, but by leasing drilling equipment - specifically his patented drill bits. Howard inherited the company and made even more.
Some situations turn out to be cyclic, and that’s a known condition in the oil business.
Oil is discovered or else oil prices soar and suddenly a need is created. Then oil prices sink or the wells run dry and a bust drives everybody away. But a decade later oil prices soar again or a new technique finds more oil and suddenly the workers are back. This time it’s easier and cheaper to produce the surrounding infrastructure because much of it was already there waiting to be revived.
Most boom towns are there to make short-term profits by rendering cheap and shoddy goods at inflated prices. But Texas and Oklahoma and other oil places have been through a century of boom and bust and know how to hunker down and wait for the cycle to restart.
Portfolio theory.
In general the riskier an investment the higher the return. So as an investor if you bet on something that fails 90% of the time but has a 20 to 1 payoff if it hits then there is a positive expected value. The more bets like this you make then the safer you are as long as the bets are separate.
The problem is for people who only can afford to make one bet or those who don’t access the risk properly.
In the North Dakota case, the values were so overvalued, that the RoI was not that long. A small house can be built for maybe 100k in a rural area (If it’s a nicer house that’s 1000 square feet or so, assuming 100 bucks a square foot which is the high end of average. If it’s barebones, it’ll be closer to 50k.) If you’re renting it for 3 a month, then it only takes 2.5 years to break even. That makes the risk much less.
You calculate the Return on Investment (ROI) over what you consider to be a reasonable investment horizon. For example, if you are investing in an oil boom town, you may assume the town has 5-10 good years of oil drilling. You will plan your investment accordingly. How you determine that time frame that may be a complex combination of statistical analysis, experience and gut instinct. But bottom line is your decision to invest would be based on whether you think that business will turn a reasonable profit over the period of your investment.
Very high prices for goods and services in boom towns partly answers the question of how it works as an investment. The uncertainty of how long boom conditions will last is one factor in people’s reluctance to invest until the price rises high enough to make it a good investment even if the boom only lasts a fairly short time. Though obviously nobody knows how long and they can guess wrong and lose out. Which somebody usually will who is too late.
But in the longer run some places are a lot more unreliable than others. Only a permanent large change in the whole world oil market was going to reverse North Dakota’s rise as a big oil producer. State oil production went from around 200k bbl/day ca. 2010 to 1.2mil ca. 2015, down to 1 mil in 2017 but it’s 1.4 mil now. That was enough gyration to catch out some people who were piling into work or investment there in 2015, and cool down boom prices for goods and services faster as new providers to arrive and drive down prices, which happens eventually anyway, but it’s hardly been a complete bust.
The risk of investing in such places is part of the reason prices are so high - they need to be in order to attract investors. The amount supplied is low despite the high demand simply because the supply curve requires much higher prices than in places with much more diversified economies. If there was less risk of developing property there, then people would be developing more of it to meet the demand, but as it is not enough people are willing to take the risk in order to drive the price lower than it is now.