Investec Europe Limited Construction Sector Outlook
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Investec Europe Limited Construction Sector Outlook Introduction The macroeconomic backdrop As the country moves into Phase 3 of the government’s Roadmap for reopening Society and Business, there are tentative signs that the economic damage wrought by the pandemic, while exceptionally swift and severe, may not be quite as bad as the grimmest of recent predictions. This is of course helped by a faster pace of economic reopening than initially planned and is predicated on the health situation remaining stable, which is far from assured at this stage. To first look at the positives, the country has made significant progress in reducing its debt burden in recent years and the public finances entered the current crisis in a healthier position than at any point in the past decade. As such, the government has substantial borrowing headroom to absorb the dual shock to revenues and expenditures and to support the economy through a range of financial measures. In addition, due to the improvement in the country’s financial position and the considerable support of the ECB since the pandemic struck, there has been record demand for the country’s recent bond issues and Ireland has been able to raise long-term debt at close to zero cost. However, economic losses will undoubtedly be enormous and a GDP contraction of less than 10% this year would, in the present circumstances, represent a good outturn. The economic damage is most severely being felt in the labour market. As we write, 466,000 people are in receipt of the Pandemic Unemployment Payment and a further 410,000 are being supported by the Temporary Wage Subsidy Scheme. Combined, this represents more than one-third of the country’s labour force. The situation is improving however and COVID-19-related unemployment has fallen by close to a quarter since the end of May, led by workers in the construction sector. More people will be able to return to work in the coming weeks, but there is still considerable uncertainty regarding the ‘rump’ of unemployment that will remain once all economic restrictions have been lifted. This uncertainty is unsurprisingly being felt in the property and construction sectors, the fortunes of which are closely related to the health of the wider economy. In this report, we assess the outlook for the various segments of the domestic property market, particularly from the perspective of new development. A severe shock to output is inevitable in the short-term given the consequences of the lockdown period, the physical constraints imposed by social distancing and the acute uncertainty that now prevails. In the longer term, the strong fundamentals that existed right up until early March should return to the fore provided that the worst of the health and economic crises are behind us. We also extend our analysis to the UK market given its importance to many Irish firms in the construction and property sectors.
1. Residential Construction
The residential market will In line with what has happened throughout much of the economy, we have seen
the effective shuttering of the entire industry, from new sales listings to property
clearly be severely viewings to the closure of the Property Registration Authority.
disrupted by the pandemic While much of this activity is in the process of reopening and rebounding, the impact
on residential construction and new housing output may prove less transitory.
21,100 new housing units were completed last year and we were on track to see
Industry has shown 24,500 units built this year and potentially 29,000 in 2021, which
good progress in would have been within touching distance of the 30,000 units that
is the minimum amount required each year to meet the flow of natural demand
recent years that is chiefly driven by an expanding population.
Following several years of steady
Furthermore, forward-looking indicators had suggested that this growth was set to
and consistent growth in housing
continue. Indeed, planning permission for 47,500 housing units were granted in the 12
output, albeit from a very low base,
months to the end of Q1 2020, a remarkable 64% increase on the previous 12 month
the industry was getting closer to
period, with this growth almost exclusively driven by the apartment sector.
completing sufficient new units to
meet the low point of demand
estimates. Figure 1: Planning Permissions for Residential Units (4 quarter rolling sum)
Source: CSO
Page 2 | July 2020
Pandemic will stall progress in the short-term
The COVID-19 outbreak however has dealt a severe blow to short-term construction activities and is also likely to set back medium-term
construction plans.
The Central Bank of Ireland has projected that housing output might fall to 16,000 this year as a result of the pandemic, which would be a one-
third reduction from previous estimates. However, following good growth in output in Q1 of this year (+17% y/y to almost
5,000 units), this implies that housing completions in the remainder of the year will be not far above half of what was previously
projected.
As significant as this fall would be, it’s not inconceivable in our view that this could turn out to be an optimistic assessment. We have begun
to see a return of construction activity in recent weeks, but most residential building sites lost in the region of two months’ activity as a result of
the lockdown period, which is broadly equivalent to lost output of 4,000 units.
And now, even though many sites have recommenced operations, almost 40,000 construction workers remain in receipt of the Pandemic
Unemployment Payment (as of 23 June). Although this is close to half the number of construction workers that received the payment one month
previously, the week-on-week reduction has slowed and 40,000 workers still represents more than one quarter of total employment in the sector
before the pandemic struck.
In addition, the pace of housing delivery on reopened sites is being negatively affected by the new safety protocols that must be adhered to by
site personnel. The impact that these protocols will have on productivity is not yet clear, but an impact is inevitable nonetheless. Cairn
Homes, the country’s largest residential developer, recently cautioned that the new working practices “will inevitably lead to extended
construction timeframes” and it outlined an extensive set of new on-site safety measures and procedures. Similarly, the head of the Construction
Industry Federation warned that the time required to build a house in the new environment could increase by 10 weeks and costs could increase
by €10,000 to €15,000 per unit.
Figure 2: Housing unit completions
Source: CSO, Investec
Page 3 | July 2020
As well as the effect on output, the pandemic will also negatively impact housing market liquidity and transaction volumes. The market was already
suffering from low stock levels before the outbreak took hold – data from daft.ie show that February 2020 had the lowest number of properties listed
for sale on the platform at that time of year on record. This situation deteriorated in March, which recorded the lowest number of sale listings
in any month since daft.ie began collecting data 13 years ago.
In compiling its Residential Property Prices Index (RPPI) for April, the Central Statistics Office noted that the number of transactions available
for analysis fell by 40% from March. As severe a fall as this was, the number of transactions was still modestly higher than the average
monthly total seen in the 2010-2011 period and April’s total is also likely to increase as the deadline for filing stamp duty returns (the primary source
of the CSO’s data) had not passed when the CSO released its report. All in all, this is a better outcome than might have been expected, although
we are also mindful that such transactions largely represent deals that were agreed before the scale of the current problems became apparent.
Looking towards future transactions, the total value of new mortgage approvals in April fell by a similar magnitude, 44% y/y. On one level, this
was quite a resilient performance. However, a significant volume of mortgage applications which were approved in April would have commenced earlier in
the year, and May’s 61% y/y fall probably better reflects current conditions in the mortgage market. We tentatively expect a 35% y/y decline in new
lending this year to €6.1bn but the outlook remains particularly uncertain. Approval data in the coming months will provide a clue to sentiment in the
consumer and residential sectors.
Figure 3: Annual change in properties listed for sale on daft.ie
Source: daft.ie
Housing In addition to the
physical capabilities of
direct
the
impact on
industry
the
to
All of which implies that housing output will suffer a
severe shock over the remainder of the year.
demand will continue churning out new housing, developers However, we are optimistic that site managers and
persist are likely to take a very cautious approach
for the remainder of this year, and perhaps
workers, following an initial “bedding-in” period, will
be able to find ways to optimise their operations
beyond. Close to half of the Q1 workforce was while observing social distancing requirements.
either made unemployed or required State support There is also tentative evidence that many long-term
through the Temporary Wage Subsidy Scheme. The housing projects have just been paused rather than
hope is that as many of these people as possible curtailed. Should the health situation not deteriorate
will be able to quickly resume regular employment, again and if the accelerated easing of economic
but clearly not all will be able to. How many of these restrictions proceeds as planned, the strong
individuals would have been looking to buy a home this underlying demand for housing should return to the
year but will now either not be in a position to or will fore and the industry will be able to bounce back in
not want to? Until some clarity emerges, developers 2021.
(and their financers) will be reluctant to break ground
on new sites or plots that have not already been
reserved.
Page 4 | July 2020
2. Commercial Construction
Prior to the outbreak of COVID-19, the outlook for the Irish commercial property market was positive on almost all fronts. Investment volumes
in the market reached a new high in 2019, buoyed by a favourable economic backdrop, strong occupier demand and increasing
overseas investment appetite. Encouraging trends in investment and tenant demand were also increasingly seen in regional cities outside of the capital.
Activity in recent years has been underpinned by strong occupier demand
Demand for office space has been strong for a number of years, particularly in Dublin, and the vacancy rate in the city has been close to
historic lows for much of the past five years. Following a completely barren spell in terms of new office construction in the 2011 – 2013 period
(unique for a major developed city), rates of new office completions have been healthy in recent years, but still significantly below
the levels preceding the last economic crash. This new supply has been in response to real tenant demand and is largely pre-let prior
to completion (at the beginning of this year agents estimated that only half of the office space under development in the
city remained available) – a notable differentiator from the mid-2000s boom period. Indeed, strong leasing activity seen in both 2018 and
2019 continued into the early part of this year – first quarter office take-up in Dublin of 100,000 sqm was the second highest Q1 total in the
past decade. For the first time in a long time, new office supply is due to come on stream this year in Cork, Galway and Limerick.
Figure 4: Investment Volumes in Irish Commercial Property Market
Source: JLL
Page 5 | July 2020
Pandemic impact
remains uncertain
The outbreak of COVID-19 has turned this Figure 5: Dublin Office Vacancy Rate
positive outlook on its head, although Source: JLL
the exact ramifications are still to be seen.
The majority of leasing deals that were at
an advanced stage will proceed as
planned, but some prospective
occupiers are likely now to pause their
plans to either assess the impact
of the pandemic on their business
or to see how market rents and
lease terms change, with a view
to potentially securing more attractive
terms. That said, there have been positive
reports in recent weeks of progress on a
number of new lease negotiations. These
have mainly involved large tech
multinational occupiers, although the most
significant has been the prospective leasing of
11,000 sqm of office space at The Exo in the
Point Village to An Post.
'Wait and see' approach to new projects
New development projects that are currently under construction and
due for completion this year and next will proceed but will be subject to
delays of perhaps three months. The prospects for projects that have not yet broken
ground are much more uncertain.
Savills estimate the level Hibernia REIT estimates Hibernia REIT's estimate
110,00sqm of new office is less than half of
of new office completions space will be delivered in its previous projection
this year will fall by Dublin in and around
1/3 2022 60 %
(to 205,000sqm), (on a probability of the level that is
although even this is weighted basis) expected to be
subject to downside risk completed this year
Page 6 | July 2020
12%
Reports of the death of the office are Just 12% of respondents to a
perhaps exaggerated large survey from NUI Galway
recently indicated that they would
like to work remotely on a daily
The nature of the office space that will be demanded, and thus basis – the same proportion that
delivered, is also likely to change, although the debate expressed this preference in a
around how this will play out is only starting. Reports on “the US survey by Gensler, a global
death of the office” have proliferated in recent weeks, but architectural and design firm.
this idea is now seeing increasing push-back. While the
Although the Dublin office market is
ability to work remotely is undoubtedly a positive for
heavily dependent on large tech
many businesses, working from home on a full-time basis is
firms who might be more willing
far from ideal on many fronts.
and able to transition to a remote
working environment as standard,
As the time spent away from offices has increased,
these firms typically have young
many employees have reported that missing social
workforces who value the office
interaction with colleagues is a challenge, while maintaining
environment as a place for
workforce morale and the ability to effectively mentor
collaboration, creativity and social
younger colleagues have been cited by employers as
engagement.
negative consequences of current arrangements.
Figure 6: Technology Sector’s Share of Total Dublin Office Take-up
Source: JLL
Industrial sector may be
least impacted
The industrial and logistics segment
has seen very limited new
development in recent years as
prevailing rents were not sufficient to
encourage new supply. Properties
that were developed were largely built
to order for occupiers with specific
needs.
That picture has begun to change in the past two years, as rents have climbed in response to growing demand
arising from the favourable economic environment and due to the secular growth of online retailing and the recalibration of supply
chains in response to Brexit.
These trends have intensified in recent months as a result of the pandemic, with a particular spike in demand for logistics facilities
from the grocery and pharma sectors. Illustrating this, the leasing in April of a 30,200 sqm unit at Damastown Business Park in west
Dublin by Dunnes Stores was the largest logistics leasing deal in Dublin since 2010. Although the outbreak of COVID-19 will have
a negative short-term effect on the industrial and logistics market – development projects under construction will be delayed by
a number of months for example – the crisis could boost long-term demand for space in the sector which, in turn, will encourage
the development of additional supply.
Page 7 | July 2020
The retail segment of the market That said, the strong consumer backdrop
Commercial retail was under pressure even before the in Ireland has dampened these effects to
to remain in flux effects of the pandemic began to be some extent, particularly when compared
felt, with the rise of online and with high street trends across the Irish Sea. In
‘experiential’ shopping leading to terms of future development, agents
stores being repurposed away from predict that demand for retail units is
traditional ‘bricks and mortar’ retail going to be increasingly concentrated in
outlets (it was announced in June that mixed-use schemes where retail is not the
Vodafone would open its first 'experience' main component of the development.
store on Dublin's Henry St).
While traditionally not a feature of the commercial property market in Ireland, the emergence of the
BTR continues multifamily/build to rent (BTR) segment has perhaps been the most notable feature of the past two
to emerge as a to three years. From a base of zero not too long ago, investment in BTR assets reached one-third
of total commercial property investment in Ireland last year. €670m was invested in the sector in
key market Q1 of this year alone – a six-fold increase on Q1 of last year. The majority of this investment is
segment being made by international investors attracted to the clear long-term requirement for new
housing stock.
This segment of the market will not be unaffected by the outbreak – 600,000 people were
made unemployed by the pandemic and this will have consequences in terms of the number of
people that will be able to meet monthly rental payments, despite the government’s income
supports. However, investors in this part of the market typically have long-term
investment horizons and, so long as the most serious economic consequences of the
pandemic are relatively short-lived, this segment is expected to be resilient, perhaps
even more so than the traditional new homes market. At this stage, future
development plans are largely expected to proceed as originally envisaged but will be liable
to delays as a result of lockdown measures and subsequent on-site safety protocols.
Page 8 | July 20203. UK Construction
Uncertain outlook is not a Recovery will be a multi-year project
recent development The pandemic has of course put much of this analysis in the rear view mirror. In line
with the experience across much of the economy, the construction sector has been
severely hit. Total construction output is forecast to be 25% lower this year and
The outlook for the UK property and construction
seven out of ten active construction projects have been delayed according to RICS.
sectors has been marked by uncertainty for some
Some degree of recovery is assured once government restrictions are removed,
time. Since the initial Brexit vote almost four years
but the pace of the recovery remains particularly uncertain at present, particularly in
ago, businesses have had to contend with an
the commercial office and industrial sectors. However, the most acutely
unprecedented lack of clarity about the future
impacted sector is expected to be commercial retail. More broadly, the
and this picture has become murkier over time.
Construction Products Association (CPA) expects construction output in 2021 to be
The unhelpful domestic political uncertainty thankfully 6% below 2019’s level, even under its most optimistic scenario.
diminished following the December general election,
even though the incoming government has not Residential sector is underpinned by
done much to quell Brexit-related anxieties in the
meantime. demand
In the residential sector, operations generally resumed in early May, and the
Despite this backdrop, it is remarkable that the UK outlook for activity in the medium-term is perhaps more resilient than might be
economy demonstrated the pre-pandemic level of expected, given present circumstances. The structure of the UK industry is
resilience that it did, and, at least prior to recent much different to Ireland’s, with the large stock market-listed builders
events, confidence in the construction sector had responsible for a much greater share of overall housing output. These developers
remained positive with a majority of firms expecting entered the current crisis period with strong balance sheets and large cash
business to grow over the next year. balances and should be able to weather the storm relatively comfortably.
Figure 7: Housing Completions in England (rolling four quarter sum)
Source: gov.uk
Page 9 | July 2020Although demand from prospective homebuyers in the coming months is unclear, and developers will concentrate efforts on partially-built estates
as a result, low mortgage rates, good mortgage availability, the UK’s own Help to Buy scheme and a structural demand for new housing should
all be supportive in the medium-term. Some of the largest homebuilders have struck an encouraging tone on the pace of the rebound in sales
enquiries. A survey by Nationwide Building Society in May indicated that 12% of the UK population had put off moving home as a result of the
pandemic, but 15% said that life under lockdown had prompted them to consider moving to a new home.
Not unrelatedly, the UK residential construction industry is considered to be well ahead of its Irish counterpart in the adoption of off-site
construction and other Modern Methods of Construction (MMC), due to the larger scale of the UK industry and the provision of
financial assistance schemes from the UK government. The pace of such adoption is only likely to increase as a result of the COVID-19 outbreak with
off-site manufacturing much more amenable to social distancing requirements.
Infrastructure looks like a long-term winner, as does regional UK
One area where activity is expected to remain robust is the public-sector funded infrastructure sector. The outlook had been positive prior to the
pandemic, particularly given the government’s renewed commitment to proceeding with HS2, the high-speed rail project linking London
with Birmingham initially (and further north in subsequent phases), but also from enhanced infrastructure spending more generally. The
Conservative government has promised to boost infrastructure spending by £100bn over five years, although this is in the context of public
investment in the UK in recent decades falling significantly behind both the country’s post-war average (2.7%) and the average amongst OECD
countries (2.5%).
Figure 8: UK Public Sector Net Investment (% of GDP) While the public balance sheet will
Source: ONS, Bloomberg, Investec clearly become highly stressed as a result of
the pandemic, spending of this nature is likely
to form an important part of government
economic stimulus programmes, in the UK and
beyond.
In addition, the HS2 project, as well as
the government’s political objectives of
ensuring that development is spread more
regionally across the UK (the so called
‘levelling up the country’), has raised the
attractiveness of the North-West as a
region for investment. According to a recent Crowe
report, the North-West (encompassing Liverpool and
Manchester) is rated as the most popular area for
investment after London and the surrounding South-
East.
Page 10 | July 2020About us
We are a distinctive financial services company, offering a diverse range of financial products and services to a niche client base in
Ireland (Europe), the United Kingdom, Southern Africa and Asia-Pacific. We know you want solutions relevant to your needs and ambitions, so we
fashion everything we do around you, the client.
Author of Report
Ronan Dunphy, Chief Economist with Investec Europe
July 2020
For more information, contact:
investec.ie
T +353 1 421 0000
E treasury@investec.ie @Investec
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