The release of demand-side GDP statistics showed a very weak situation in the two property-related categories of fixed investment, i.e. residential and non-residential buildings fixed investment.
These are heavily influenced by new building activity. Real residential fixed investment saw a further year-on-year decline in the fourth quarter of 2018, to the tune of -6.79%, whilst non-residential fixed investment was little better at 2.86%.
This is not new for the commercial property finance sector of banks, with SARB data for the third quarter of 2018 already having shown the value of new mortgage loans granted for construction of building to be declining year-on-year by sharp 28.12%.
A key question is whether the situation looks set to improve in the near term, and to ponder this, FNB delves into the residential side in this note, examining StatsSA Building Statistics for 2018. These stats, whose 2018 picture is complete, points to a possible near term weakening in residential building activity, after a slightly stronger year in 2018 compared to 2017.
However, although the sector saw some mile strengthening in 2018, compared to 2017, it remains weak, and by late-2018 renewed pressure from a weak economy was once again evident.
The square meterage of residential space completed grew by 14.6% for 2018 as a whole after the decline of -1.7% in 2017. The number of units grew by a lesser 3% in 2018, also up on their -6.1% for 2017, with the average size of units completed increasing.
The square meterage of residential space completed grew by 14.6% for 2018 as a whole. However, examining the data on a quarterly basis, we could see renewed signs of weakness emerging as the year ended, suggesting a weak 2019 awaiting.
Square meterage of residential units completed reached a year-on-year growth high of 35.9% in the third quarter of 2018, before receding to 16.7% in the final quarter.
This slower completion growth, however, remained relatively strong, and does not confirm a slowdown yet. More significantly, the leading indicator of activity to come, i.e. growth in square metres of plans passed, peaked earlier at14% year-on-year back in the third quarter of 2017, and by the final quarter of 2018 has reached negative territory, recording a -7.8% drop.
The picture looks weaker when examining the growth in the number of units completed and plans passed (as opposed to total square metres).
Here again, the number of units completed had a late-2018 surge, peaking at year-on-year growth of 26.8% before receding mildly to 24.4%.
However, this again appears merely the lagged impact of an earlier planning surge starting in 2017, with the number of units’ plans passed peaking at year-on-year growth of 15.2% in the 1st quarter of 2018.
And by the final quarter of 2018, this plans passed growth had weakened to sharp negative growth of -23.8%, a decline that probably indicates a decline in completions to come in the near term.
A mildly stronger 2017 economic growth rate arguably explains the “mini-surge” in residential buildings completed at a stage of 2018
The fact that mild strengthening in growth in residential plans passed started back in 2017 suggests that the economic factors driving it were more 2017-related than 2018, the completions growth “surge” then merely happening with a lag at a stage of 2018.
And indeed, following the end of a national drought, with the help of an agricultural recovery, FNB saw the country’s economic growth go from a year-on-year contraction of -0.4% early in 2016 to a 1.6% peak in the second quarter of 2017. This meant average GDP growth of 1.4% in 2017, up from 0.4% in 2016, and it is believed that this had a mild positive impact on the level of residential building planning in 2017, feeding through to the level of completions at a stage of 2018.
But a receding economic growth rate back to 0.8% for 2018 arguably reflects on the more recent slowdown in plans passed and suggests weakening in completions to come in the near term.
And, of course, the first 25 basis point interest rate cut in the most recent rate cutting cycle took place in mid-2017, and this may have lifted confidence in the development sector mildly back then, followed by an early-2018 25 basis point rate cut (which proved to be the last in that small cutting cycle)
Now, early in 2019, we sit with a slower economic growth rate just behind us in 2018, and a recent 25 basis point interest rate hike late last year. This would suggest renewed building completions weakening to come. Residential Building Stats may also point to near term economic weakness.
While building completions fluctuations can reflect movements in the economy with a lag, plans passed excluding the less cyclical dwelling houses smaller than 80 square metres in size” can be a leading business cycle indicator.
This is so much so that the Composite Leading Business Cycle Indicator of the SARB, as well as that of the OECD for South Africa, includes this building plans passed time series as an input.
Admittedly the Residential Units’ Pans Passed for “Houses Larger than 80 square meters, Flats and Townhouses” is volatile, so caution must be exercised in interpretation.
But its year-on-year growth peaked at 22.1% in the second quarter of 2018, before slowing in the subsequent two quarters to reach a -2.7% rate of decline by the final quarter of the year. If this typically leading indicator is to be believed, it may be pointing to near term slowing in economic growth, and indeed is tracking the OECD Leading Indicator for SA which is also seeing some decline of late.
The impact of Household Sector Financial “constraints” caused by economic weakness is also becoming visible in other ways.
Interestingly, the average size of residential units completed and planned has not declined materially yet, having increased markedly since around 2013.
As at the first quarter of 2013, the average size of unit completed was 107.4 square metres, having declined all the way from a high of 141 square metres back in 2006.
From 2013, the average size started to rise, and went back to above 140 square metres, averaging 142.9 square metres by the end of 2018.
This renewed increase in average size of unit can possibly be the lagged impact of that economic recovery following the 2008/9 Financial Crisis-related recession.
However, delving a bit deeper we may see it to merely be reflecting slower growth in the “Social” Housing segment than in higher income markets. What we also see is that, while South Africans are reluctant to reduce their under-roof living space, they are happier to go for less open space, with the Flats and Townhouses” building unit category seeing the strongest growth in recent years.
The building stats show that, from a share of 23.56% in 2011, the “Flats and Townhouses” home category, where Sectional Title accounts for a sizeable part, grew its share of total units completed to 36.01%.
The “Dwelling Houses Larger than 80 square metres” (which are free standing) category, which would occupy larger stands on average than flats and townhouses, on average, saw its share of total completions decline slightly from 28.28% in 2011 to 27.69%.
The third home category, “Dwelling Houses Smaller Than 80 square metres” (also free standing) saw a significant decline in its share, from 48.15% in 2011 to 36.3% by 2018.
So what do we mean when we say we see the stats reflecting financial constraints, or “limitations”? Well, the increase in the share of flats and townhouses, FNB believes reflects the efforts of the Development Sector to improve housing affordability, not only in so-called “affordable” areas, but also in the mainstream suburban markets, many of which are middle of even higher income areas. The improvement in affordability would be achieved through the more efficient use of available land than the two free standing home categories.
Have they got it right?
FNB does see indications of cost growth containment. While the data can be volatile, the year-on-year inflation rate in the average value of units completed has broadly slowed from 16.26% as at the 2nd quarter of 2014 to as low as 1.79% by the fourth quarter of 2018, a negative real growth rate when adjusted using CPI inflation.
This slowing inflation rate in average value per square metre completed could suggest mounting efforts at cost containment to improve affordability. Its timing would suggest that this is in response to weakening economic times, and tougher financial times for households, and the need for greater housing affordability.
Looking forward, the near term looks set to see an even greater rush for the “Flats and Townhouses” category, whose share of plans passed in 2018 increased noticeably to 40.9% from 33.7% in 2017. The average size of unit plan passed in this category was 117 square metres.
This will continue the trend of residential densification, with this category normally making far more efficient use of scarce urban land.
The outlook for the New Residential Building Sector (a strong influence on overall Residential Fixed Investment numbers) appears to be one of weakening in 2019.
FNB says this because, despite a mild strengthening in square meterage and units of space completed, for 2018 as a whole, FNB saw plans passed shift back into year-on-year decline recently after a 2017 mini-surge in growth, and plans passed are normally a good directional indicator for building completions a little later on.
FNB has already seen slower inflation in the average value per square metre of units completed, reflecting in part what we suspect to be attempts by the development sector to improve home affordability as household finance come under pressure (and so does residential demand) in a stagnant economy
Next, as a result of mounting affordability constraints, FNB would expect the average size of units built to begin to trend smaller, after some years of broad increase. This would dampen the number of square metres built, and thus the overall activity.
Plans passed data also point to flats and townhouses, the more efficient users of scarce and pricey land increasing as a percentage of total building completions in the near term. This is a possible further sign of mounting affordability challenges.
Putting this picture together leads us to expect a return to a decline in square meterage as well as number of units of residential buildings completed in 2019, after a brief positive growth surge in 2018, and for further negative growth in Residential Fixed Investment in the near term.
Interest rate cutting would provide some near-term stimulus, but FNB does not foresee such an event taking place this year. Some believe that many investors are waiting for election time to see what developments unfold thereafter. Noteworthy economic policy improvements, or visible progress in fixing key parastatals, could conceivably boost national sentiment and economic growth, and through this the building sector. Whether or not such announcements could be seen in 2019 after the mid-year election remains to be seen. But for the time being, residential plans passed, as a leading indicator of building activity to come, suggest weakening in the near term.