Regional Report: US Prospects

It is not a happy time to be in the US house building sector. According to the latest figures from the US Census Bureau, the value of residential buildings constructed in the 12 months to the end of January this year was USS$ 463 billion, some -19.4% less than the 12 months to January 2007.

Census Bureau data shows the sector was at its highest in February 2006, when the 12-month rolling total stood at just over US$ 700 billion. So in less than two years, the US residential construction sector has shrunk by a third. As a result, its share of the total US construction market has fallen from 58% in February 2006 to 41%, based on January 2008 numbers.

The impact of the last two years' downturn in residential construction was very much the talk of last month's ConExpo-Con/Agg exhibition in Las Vegas, and many major construction equipment manufacturers said they were feeling the effects.

John Patterson, managing director and CEO of JCB said, "The US market is in decline driven by the sub-prime issues. It was down -13% last year and will probably fall again this year."

Jim Owens, chairman & CEO of Caterpillar agreed, saying, "We experienced recessionary conditions in the US in 2007 and it is not likely to get any better in 2008."

But Mr Owens went on to say that there were good prospects of a recovery in the US in 2009 and 2010, by which time machine fleets are likely to be aging. "We'll be very happy to help replace them," he said.

As Mr Owens said, an improvement may be on the distant horizon, but this year looks like it will be another grim one for the residential construction sector.

The reason the market got overheated in the first place was of course the sub-prime crisis that came to light last summer, when banks began to suffer massive losses from their irresponsible lending practices during the previous four boom years. As March's near collapse and forced sale of investment bank Bear Stearns illustrates, the banking sector has not yet sorted out its problems.

According to the Portland Cement Association (PCA), there is also a serious hangover in the physical residential market, with huge numbers of new properties likely to remain unsold this year. It estimates that the high level of ‘inventory' in the market will see housing starts fall -25% in 2008.

By the end of 2008, thee PCA expects a 9.5 to 10 month supply of homes to be in ‘inventory' for sale. According to PCA chief economist Ed Sullivan, the large number of foreclosures caused by the sub-prime crisis is the main reason there is such a high inventory suppressing new starts.

"Typically builders accelerate start activity when the inventory supply reaches five months. A significant improvement in sales and inventory conditions is not expected until the second half of 2009," said Mr Sullivan.

He continued, "Even though buyers can get better priced homes in 2008, they must now have good credit scores and as much as a 20% down payment to qualify for loans. With job and income gains expected to slow during the next four quarters, most potential home buyers will back away from such a major purchase until the economy is more stable."

Strength elsewhere

But for all the difficulties in the residential construction market, buoyancy in pretty much every other part of the US construction market did a lot to offset the problems last year.

Despite the -19.4% fall in residential construction for the year to the end of January, US Census Bureau data for other sectors shows that construction output at a whole was only down -3.3% compared to a year ago.

Construction output excluding residential construction increased +12.4% in the 12 months to the end of January. Among the strongest sectors was infrastructure construction relating to transportation, communications and power, as well as areas associated with tourism, such as lodging, and amusement & recreation.

As a result, companies not exposed to the residential sector have felt few, if any adverse effects over the last two years. One such company is Sandvik Mining & Construction, as the head of its construction division, Thomas Schulz explained. "The niches that Sandvik is in are mainly infrastructure sectors, and we are not being hurt by the problems in the residential market," he said. "Infrastructure is developing fantastically well, with growth rates forecast at about +5% year-on-year."

But the danger Mr Schulz sees is that the market may talk itself into a recession. "In North America there is a lot being said about the negative situation. It is not as negative as some might say. We'd like more positive talk. Feelings are very important in this business. If everyone talks negatively, investments will fall, and then we will have a problem everywhere - not just residential construction," he said.

2008 prospects

As far as the residential market is concerned, 2008 will undoubtedly be another tough year. The market will definitely fall - the only question is how much. The March 2008 Associated General Contractors of America (AGC) Construction Inflation Alert includes the prediction that residential construction spending will fall between -15% and -20% this year.

More pertinent is the question of what will happen to the various non-residential construction sectors that have done so well over the last three years or so?

The AGC sees something of a turning point in 2008. As opposed to last year, where there was strong growth across the board in non-residential construction, 2008 is expected to see some sectors turn down. At the same time, the AGC expects five key segments to grow further this year.

The first is power, which is to say power plants, wind and solar generating facilities and transmission lines, a sector which saw +27% growth in 2007. The AGC says Census Bureau figures predict a similar climb again this year, due to upgrades and environmental improvements to traditional plants, along with higher investment in renewable sources.

Energy is also expected to a hot area this year, with plans to build more traditional fuel refineries and an increased interest in bio diesel driving as much as +20% growth. Other key areas include communications infrastructure - driven by the popularity of cell phones and other digital gadgets, hospitals, and higher education.

The PCA takes an altogether more pessimistic stance in its Spring 2008 preliminary economic forecast. It sees construction spending falling -11.8% in 2008, compared to the -2% to -6% downturn in construction spending expected by the AGC.

As well as a sharp decline in housing starts - the PCA sees these falling a massive -26.5% from the already depressed levels of last year - non-residential construction is expected to fall -7.1% compared to 2007. What's more, the PCA does not see a low point being hit until 2009, with no recovery in residential construction until 2010.

It should be said that the PCA bases its forecast for the construction industry on pessimistic projections of overall GDP growth for the US this year, so could probably be regarded as the worst-case scenario.

Crystal ball

Trying to predict what will happen in the US construction market this year, given the turmoil in the banking sector is next to impossible. Without the help of a crystal ball, there are few things that can be said for certain. However, there is some consensus.

Most agree that residential construction will fall further over the course of the year. How steep that fall will be is a hotly debated point.

After a strong year in 2007, the non-residential sector is unlikely to enjoy similar levels of growth in 2008. The question here is whether this part of the market will stay in positive territory thanks to buoyancy in booming markets like transport and energy.

Overall, the US construction market is expected to contract again this year, with growth in the non-residential market unlikely to offset the troubles of the house building sector. The question is whether the dip will be deep or shallow and, to return to Mr Schulz's point, whether the pessimists will succeed in talking a shallow dip into a deep recession.