Rock Bottom?

Dec 1, 2008 12:00 PM, By Beck Ireland, Staff Writer

Bottoms up

Fig. 4. Reed Construction Data is one of the few organizations that predict housing may recover as early as 2009.

Ironically, the cause of the decline in non-residential spending — the housing recession — may be on its way back up in the next few years. Many forecasts are predicting a bottom to be hit at the end of this year or early in 2009, followed by a mild rebound. Reed Construction Data is expecting a 26.2% decrease in housing starts for 2008, to be followed by an 8.6% increase in 2009 (Fig. 4), with construction spending following suit shortly after. “The single-family market has largely cleaned up most of the problems,” Haughey says. “Builders are starting fewer homes than they're selling and are now just waiting for realtors to unload the existing homes that are on the market. Even though housing started this whole problem several years ago, it's going to do better than the rest of the construction markets for the next few years and even better than the rest of the economy, even though it won't get back to where it was.”

David Seiders, chief economist for the National Association of Home Builders (NAHB), Washington, D.C., isn't expecting an increase in new single-family home sales until the end of 2009, and a substantial rebound in new-home starts until the end of 2010. “There is some pent-up demand building,” he concedes.

In addition, the $7,500, 15-year interest-free loan for first-time home buyers included in this summer's housing rescue legislation should spur housing demand in the coming months. Yet, Seiders remains realistic. NAHB calls for housing starts to post their fourth year in a row of double-digit declines, with another 16.2% drop in 2009 (Fig. 5 on page 36). “Momentum is still definitely downward,” he says.

Others are also fairly pessimistic about a near-term residential market turnaround. “For single-family housing, declines are continuing and showing no sign of an upturn,” Murray says. “Home prices are continuing to drop, 20% so far this year, and we expect another 10% decline through the first half of 2009. Then, things should level off.”

McGraw-Hill is predicting a 36% decline in single-family starts for 2008, compared to a 2% decline in 2009. FMI is predicting a 10% decrease in single-family housing construction put-in-place for 2009, and PCA is expecting an 18.1% decrease.

“Although production has declined dramatically, we haven't begun to work off excess inventory,” says Kermit Baker, chief economist at The American Institute of Architects, Washington, D.C. “With falling demand, high inventory levels are not declining.”

However, according to Baker, once the recession ends, housing should snap back fairly quickly. “The industry has a history of returning to the 15% to 30% range in the first quarter of recovery and even stronger in the later quarters,” he says.

The excess inventory of single-family homes is also causing problems for the multi-family housing market. “The most immediate impact on the apartment market is the competitive supply in the form of vacant homes: for-sale product that is sitting out there and competing with landlords for tenants,” Mulvee says. “With the shadow inventory, we think that the apartment market demand is going to struggle a little bit in the near term.”

However, through sheer demographic drivers the apartment market has the potential for a rebound in the same geographic areas that have been hit hardest by the housing recession. According to Mulvee, the children of the Baby Boomers (the Echo Boomers), will soon be graduating college, forming new households, and moving to warmer climates for jobs to cities such as Raleigh N.C., Austin, Texas, and Orlando. “Yes, even Florida's getting younger,” Mulvee says. “These are the markets that will see the biggest influx of new renters, on a percentage basis. On an absolute basis, markets like Los Angeles and New York, which have huge existing populations of young people, they'll see the largest change going forward.”

Price declines

The one bright side to the decline in construction projects is an easing of demand for construction materials. “The commodity price surge, which was such a problem for construction in the early part of this year, is essentially finished,” Haughey says. “If you had a problem of underestimating the cost of materials for jobs in the last seven or eight months, that's going to go away for several years.”

According to Haughey, construction material prices increased at a 20% pace through July, were unchanged in August, and then increased again at about a 6% pace in September. “The slowing world economy has caused some outright price declines for metals and, through energy, for plastics, and the ebbing U.S. demand and demand from overseas is going to keep construction materials price inflation well below what it was in the early part of this year.”

John Mothersole, principal, Industry Practices, Global Insight, Washington, D.C., says the investor component, or speculation, that helped to inflate prices along with demand, will also decline in 2009. “Trading volume is likely to be less,” he says. “Prices are going to track more closely with the fundamentals of the market.”

According to Mothersole, steel prices have only begun their retreat. “Prices are falling with big reductions to come,” he says.

In addition, scrap, the canary in the coal mine for predicting market changes, will fall to $220 per short ton next year. Finally, copper prices may drop from their all-time highs. “We see a small surplus in 2008 that widens out in 2009, pointing prices lower still,” Mothersole says.

There will be continued erosion in the construction equipment market as well. From 2005 into 2006, the construction equipment market was booming, relying on exports to Asian markets. This was followed by a falloff in 2007. “We expect to see some more falloff with much of the damage coming ahead in foreign sales, partially to Asia,” Haughey says. “It's going to be a slack market, which means if you're buying, better prices.”

More collateral damage from falling markets will be increased competition and higher unemployment rates for engineering and construction firms. When vertical markets are on the decline, competition for projects in the healthy markets increases. “Even if you're a firm that's positioned in the good vertical markets sectors, you can pretty well guarantee that your competition's going to be going up dramatically, because all of these people who are in unhealthy sectors have got to have a place to go,” Harris says. “So everybody, no matter where they're positioned or how they're positioned, is going to feel the net effects of this.”

With fewer projects may come layoffs. “Construction unemployment has almost perfectly mirrored general U.S. unemployment over time, in the ups and downs of the cycles,” says Harris. “It stands to reason that you're certainly going to see our industry's unemployment moving up, which is ironic because most of the firms in this industry have spent the last 10 or 15 years doing everything they can to hang on to talent. Now it's going to be a situation of probably going in reverse on some of that, having to deal with the other side of the coin.”