Building and Construction Outlook quarterly report - September 2010 quarter
Where to for the building recovery?
In this issue we cover:
Canterbury earthquake
The text of this issue of the Building and Construction Outlook was being finalised when the Canterbury earthquake occurred on 4 September. The historical trends and data reported and the outlook stated in this report therefore predate this event.
At the time of writing the building and housing damage from the earthquake was yet to be assessed.
Over the next quarter the Department expects to gain an accurate sense of the extent of the damage and the rebuilding and recovery work needed.
We will endeavour to keep the industry updated as information comes to hand and will provide a more detailed update and analysis in the December 2010 quarter issue of the Building and Construction Outlook.
Key themes - September quarter 2010
- Housing consents have continued to rise slowly from a low base since June 2009. Recent data also show continuing improvement in residential building activity and, with consent numbers usually a reliable indicator of building activity six months out, the market view is we have passed the low point of the home building cycle. However, there is also concern the housing recovery is flattening out and possibly even in danger of stalling.
- While residential consent levels are up and expected to remain fairly stable over the next six to 12 months, the rate of recovery has not met earlier expectations. The improvement over the last three quarters (up 21% on the previous three quarters) seems to be more an inevitable rebound after falling to a low than a momentum-driven recovery. In particular, stronger growth is being held back by declining net migration, tighter bank lending and the sluggish pace of the domestic economic recovery.
- The non-residential outlook continues to worsen with building consents trending down over the last two years. The value of consents issued in the June 2010 quarter was down 36% and 28% respectively on the June 2008 and 2009 quarters. While a number of major projects are planned for 2012/13, the outlook for the remainder of 2010 and 2011 is weak.
- There is concern the improvement in the residential sector may not hold up enough to offset the decline in the non-residential sector. Early this year market expectations were for new (non apartment) dwelling consents to reach 18,000–20,000. However, consents to date average just under 1,300 a month, suggesting a full-year total of around 16,000.
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Residential and non-residential sectors both slowing
- After a healthy increase of 7.4% in the December 2009 quarter, seasonally-adjusted growth in the residential construction sector dropped to 2.2% in the March 2010 quarter. Looking ahead, low building consent numbers (currently averaging 1,300 a month) indicate construction activity will likely struggle to grow over the coming few quarters. At the time of writing, newly-released figures for July 2010 show 1,270 non-apartment residential new building consents ($364 million) were issued against 1,316 ($379 million) in June.
- However, the residential alterations and additions (A&A) market has remained steady, partially offsetting the decline in new building work. A&A consents totalling $325.8 million were issued in the June quarter, while building activity has averaged $339 million a quarter over the last four years. This sub-sector should experience sustained growth over the next four to five years with forecasts of $5 billion-plus in remedial work required for leaky homes.
- The short-to-medium term picture is more grim for the non-residential sector. Construction activity fell 1.2% in the March 2010 quarter after a fall of 16.1% over the four previous quarters. The total value of building consents issued in the June 2010 quarter is 32.2% down on the previous June quarter. While a number of large commercial building and infrastructure projects are in the pipeline for 2012, the outlook for the remainder of 2010 and 2011 is bleak. The situation is exacerbated by high vacancy rates in key commercial sectors and development finance all but drying up. The July 2010 figures confirm this downward trend, with consents totalling $293 million issued, against $331 million in June.
Figure 1: Value of consents - Rolling Quarterly $M
Figure 2: Construction activity - seasonally-adjusted quarterly
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Home building growth slowing
- After rising in the third quarter of 2009, building consents for new dwellings (excluding apartments) have since levelled out. They averaged just under 1,000 a month for the nine months ended September 2009 and around 1,300 a month for the following nine months. Even assuming they hit 16,000 for the year, that’s still well below the 23,700 average of the last 15 years.
- Looking ahead to demand for new housing over the next few quarters, the leading indicators are mixed. The outlook for the New Zealand economy continues to improve with GDP growth up 0.9% in the December 2009 quarter and 0.6% in the March 2010 quarter. Consumer and employment confidence are also both high. On the negative side, unemployment also rose 0.8% to 6.8% in the June quarter and net migration is slowing.
- Without a significant lift in economic conditions, growth in demand will stay subdued and the home building sector will track sideways – or at best show modest growth – over the next few quarters.
Figure 3: Annual number of dwelling consents
Figure 4: Monthly number of dwelling consents
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Net Migration down
- Net migration is currently providing only modest support for housing demand. On a seasonally-adjusted basis, net migration inflows averaged a solid 1,800 per month last year. But 2010 has been a different story. After recording 1,820 in January, net inflows fell over the next five months to hit 140 in June before bouncing back to 970 in July due to a surge in arrivals.
- For most of the last five years, departure numbers have varied more than arrival numbers and so have a greater effect on net migration levels. For example, in 2009 monthly departures ranged from 4,820 to 6,600 (a spread of 1,780), while arrivals ranged from 6,830 to 7,580 (a spread of 750).
- The 2010 pattern has been different. For the first six months, monthly departures ranged from 5,260 to 6,110 (a spread of 850), while arrival numbers ranged from 6,250 to 7,100 (also a spread of 850). With the increase in departures matching the fall in arrivals, by June monthly net migration gain had shrunk to just 140 in June after starting at 1,850 in January. However in July, arrivals reversed their downward trend and rose by 780 (the largest month-on-month rise since April 2005), while departures fell by 560.
- Over the rest of 2010, departure numbers are expected to level out amid global economic uncertainty and the Australian labour market tightening, while arrival numbers should continue to recover from their weak first half-year. Rolling 12-month net inflows are now running at around 15,000 and – while unlikely to match last year’s 21,700 – for the rest of the year should stay comfortably above the last five years’ average of 10,500.
Figure 5: Number of housing consents vs net migration
Figure 6: Permanent and Long-Term Departures (seasonally adjusted)
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Interest rate hikes on hold
- Floating mortgage rates are moving up after settling at just above 6% for more than a year. As expected, the Reserve Bank began raising interest rates in June, lifting the official cash (OCR) rate by 0.25% on 10 June and a further 0.25% on 29 July after holding it at a record low of 2.5% since April 2009. It now sits at 3.0% and, with economic growth now slowing, most commentators expect it to stay at that level for the rest of the year.
- The economy is now recovering from the recession and slowly returning to normal. Barring any major setbacks, monetary policy settings can be expected to follow suit with the OCR moving back towards more ‘neutral’ levels of around 5.0%-5.5% over the next 18-24 months. How quickly the Reserve Bank raises rates will depend on how well the economic recovery stays on track and inflationary pressures stay in check.
- Fixed-term mortgage rates (especially for three years or longer) are tied more to offshore interest rates than the OCR since banks fund most of their fixed- term lending from offshore. Rates started rising sharply in early 2009 and then again a few months later as offshore central banks lifted their cash rates. They have since eased back a little on the back of easier credit in the US and concerns over the global economic outlook. For the last few months they have settled at around 7.7% (three-year rates) through to 8.5% (five-year rates) and could soften a little over the coming months.
Figure 7: Mortgage rates vs number of dwelling consents
Figure 8: Fixed mortgage rates by term
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Home lending plummets
- The home lending market continues to worsen. After falling steadily over the past three years, in the last few months home lending and mortgage approval rates have hit lows not seen for several years. Since the Reserve Bank began recording weekly mortgage approval numbers back in 2003, 19 of the 20 slowest weeks have been in 2010.
- In June, total bank lending for housing increased by only $177 million, the lowest monthly increase since August 2000. The average monthly increase for the 12 months to June 2010 was $470 million, versus monthly averages of $613 million for the 12 months to June 2009, $1,057 million to June 2008 and $1,456 million to June 2007.
- Banks continue to tighten their lending criteria by requiring good banking histories, and higher deposits and equity ratios. In addition, with interest rates on the rise and consumers focusing on reducing debt and still cautious about taking on major financial commitments, any recovery in mortgage lending will be hesitant and slow.
Figure 9: Home loan approvals (rolling annual figures)
Figure 10: Monthly increase in home lending ($M)
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Dismal outlook for non-residential sector
- Activity levels in the non-residential sector have been falling since the beginning of 2009 and are now at their lowest levels since the March 2004 quarter. The decline in activity has been spread right across the sector. Building work declined in every sub-sector during the March 2010 year except education and Rugby World Cup related construction.
- While building consent levels have been variable, the overall trend has been downwards since mid-2008 apart from a brief spike in late 2009. Non-residential work generally lags consent issuance by around one year. Based on what is known to be in the pipeline, building activity is not expected to recover until well into 2011 or early 2012.
- A chronic shortage of development finance and ongoing finance company failures are compounding the sector’s downturn. The major banks are tightening their lending criteria and are unlikely to plug the gap. After weathering the storm over 2008-09, they are now trying to consolidate their loan books by targeting low-risk lending areas and avoiding higher-risk areas such as development finance.
Figure 11: Value of consents - rolling quarterly ($M)
Figure 12: Value ($M) of non-residential consents - 12 months to June 2008, 2009 and 2010
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Home sales well down...
- After an initial spike in the first quarter of the year (which has been typical of the market for most of the last 10 years), sales numbers have fallen back below 2008 levels – the slowest year since 1992. July was the slowest on record with 4,411 sales and brought the total for the year-to-date to 34,249 – well down on the January-July average of 52,700 for 2000-09, but on a par with the 34,287 for January-July 2008.
- As well as sale volumes staying low, the market has been flooded with high volumes of new listings over the last 12 months (10,586 in July alone). The result is a growing inventory of unsold houses – 52,404 at the end of July, equivalent to 47 weeks of sales at current sales volumes. A year earlier, the unsold inventory amounted to 33 weeks of sales.
- While recent months’ sales have been slow, the Real Estate Institute is optimistic that activity will pick up shortly. It notes that winter is traditionally a slow period for the property market with many homeowners preparing their properties for listing in the spring.
Figure 13: Monthly home sales vs new dwelling consents
Figure 14: Median days to sell
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...and prices slipping
- As well as sales numbers being well down on last year, median sale prices are now also slipping. After hitting a high of $360,500 in March, the national median price slipped to $349,000 in July while the median days to sell rose from 35 to 45. While asking prices fell 5.2% in the four months to 31 July, they may need to drop further for sales to pick up markedly.
- Commenting on July sales activity, the Real Estate Institute notes that ‘good sales are still being made and properties priced right are attracting a lot of attention and are selling’. ANZ’s economists agree, but also believe not enough properties are priced right. They describe the current market as a ‘Mexican stand-off’ between buyers who don’t want to pay too much and sellers unwilling to lower their selling price expectations.
- With supply significantly outstripping demand and houses now taking longer to sell, buyers have more bargaining power than vendors.
Figure 15: New Zealand median house prices (thousands $)
Figure 16: Stratified median house prices (annual change)
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Rent rises ahead?
- The recent housing slump and consequent demand for rental properties have yet to push rents up noticeably. While the rental market in some centres has been volatile from month to month, over the last two years private sector rents in urban centres have generally tracked inflation. Over the two, three and five years to June 2010, they have increased by 1.9%, 7.4% and 19.9% respectively. However, that could well be about to change.
- Capital appreciation of property has slowed significantly over recent years. Between November 2007 and June 2010 house prices fell 3% while inflation rose 8.8%. In other words, in real or post- inflation terms, house prices have fallen by around 12% and show little sign of recovering in the near term. That may prompt investors to start raising rent to compensate for the capital gains they are now foregoing.
- Tax changes introduced in the 2010 Budget with effect from 1 October are also likely to lead to higher rents. With the changes reducing property investors’ tax rebates for losses and cutting back on allowable depreciation, many landlords may need to increase rents to gain their expected return on capital – particularly where their investment properties have been negatively geared. Westpac’s economists are expecting landlords to increase rents by 7% to offset the effects of the tax changes.
Figure 17: Private sector median rent inflation
Figure 18: New Zealand weekly rents (Mean $)
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Home building costs still rising
- Home building costs have continued their gradual rise and over the past year have trended a little below inflation. While demand for housing has dropped over the past year, underlying cost pressures continue to nudge costs higher. With excess capacity increasing as construction activity slows, overall labour costs are likely to come under more downward than upward pressure, but raw material costs continue to climb with strong demand from China pushing global prices higher – particularly for steel and timber.
- Across-the-board construction costs are set for a one-off jump with GST rising from 12.5% to 15% on 1 October. With margins already under pressure – particularly for subcontractors aggressively competing for work in a slowing market – it is likely most of the industry will need to pass on to the customer the full impact of this GST hike.
Figure 19: CPI - housing costs
Figure 20: Construction input costs - PPI
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Construction employment outlook mixed
- Construction industry employment increased by 11,900 (6.9%) to 183,800 (8.5% of the total workforce) over the three quarters to June 2010, while the country’s total workforce managed just 1.0% growth. Meanwhile, the number of people in the industry employed by firms with three or more employees (including the proprietor) fell from 123,900 to 109,100 pointing to an increase in sole operators and two-person firms – possibly as small firms shed staff to reduce labour costs in response to tighter competition.
- Wage growth has been slower in the industry than across the general workforce over the last few years. This is mainly due to employers reducing employees’ working hours to cut labour costs as construction growth slows. For 2000-07 the average working week (including overtime) was 42.5 hours, but for the last three quarters it was 40.2 hours. With construction activity slowing, excess capacity increasing and some large construction firms considering layoffs, wage growth is not expected to pick up appreciably.
- Steady growth in the residential sector over the last 12 months has more than offset the downturn in the non-residential sector and underpinned employment growth. However, with non-residential building consents (a 12-month lead indicator of activity) continuing to fall and growth in residential consents (a six-month lead indicator) now slowing and in danger of stalling, continued employment growth is coming under threat.
- The employment outlook will largely hinge on whether the residential sector can grow sufficiently to offset the decline in the non-residential sector. But with several factors supporting demand – net migration, easy credit, low interest rates, stable home building costs and low unemployment – all currently neutral or negative, the 12-month outlook is not encouraging.
Figure 21: Emplyment Index (2001 Q2 = 100)
Figure 22: Average weekly wage (Incl. overtime)
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