Faithful+Gould UK Tender Price Index (TPI) Forecast
The Faithful+Gould TPI forecasts follow the BCIS Industry standard forecasts, adjusted to reflect Faithful+Gould’s market intelligence, and are based upon a year on year percentage change.
GDP growth estimate revised to 2.6% for 2014. Preliminary average forecast growth for 2015 is 2.5%
Year-on-year growth for construction of 3.6%, however 0.9% contraction in Q4 2014
TPI growth forecasts over the forthcoming year as contractors seek to maximise on selective opportunities. This is likely to be followed by a slightly reduced TPI increase as the markets balance themselves in 2016
Decrease in CPI inflation to 1.0%. The primary factor is the plunge in Brent Crude Oil prices between Q2 2014 and Q1 2015
Levels of investor confidence will depend on outcome of May 2015 General Election
General Economic Outlook - UK
Broadly, the outlook for the UK economy remains positive for 2015. The latest GDP forecasts released by HM Treasury in January 2015 display confidence that consistent growth will prevail, with average forecasts hovering around the 2.5% mark for the year ahead. These forecasts have come on the back of the latest GDP data provided by the Office for National Statistics (ONS), which estimates year-on-year growth for Q3 2014 at 2.6%. Despite a revision down from an earlier estimate of 3.0%, it is worth noting that the 2.6% figure is on a par with pre-downturn growth rates.
The ONS points to a number of other factors which have propelled the economy into a position which is now 2.9% in advance of the pre-recession benchmark, with unemployment and productivity on the increase. The labour market is a continued success story in the UK, with unemployment dipping to 6.0%, down from 7.2% in the year. Forecasts for continued reductions in unemployment remain, although levels remain above the sub-5% historic lows, suggesting that spare capacity in the labour market remains available. Output in most sectors has also returned to levels not seen since pre-2008, although the construction and production sectors did not perform as well as financial and service sector counterparts in Q3 and Q4 2014.
In forecasting economic trends for the coming year, assumptions should be qualified by the risk of political overhaul in the 2015 UK Parliamentary General Election, the result of which is likely to remain shrouded in uncertainty until Election Day in May. In addition to this, broader global, political and economic developments must also be taken into consideration. This includes heightening tensions between Western Governments and Moscow, concerns over the integrity of the Middle East’s geopolitical status and a plunge in oil prices over the past 6 months. Although the latter may be of short term benefit to a number of UK businesses in certain sectors, the resulting downward pressure on CPI inflation levels has raised the risk of entering into deflation. In major Eurozone economies such as Germany, deflation is already an issue. There is a concern that this will adversely affect the buoyancy of UK Trade and ultimately undermine economic growth in the mid-to-long term future.
The Office for National Statistics (ONS) published its most recent construction output estimates on 9th January 2015. The ONS defines output as 'the amount charged by construction companies to customers for value of work produced during the reporting period, excluding VAT and payments to sub-contractors'. The latest estimate shows that between November 2013 and 2014, total output in the industry grew by 3.6%. In addition to this, the estimate for growth in total output between Q3 2013 and Q3 2014 was again strong, showing increases of 6%. As a general rule therefore, construction has experienced a positive year, in which overall growth has matched pre-recession levels and has been fuelled by an overall increase in confidence in the UK economy.
When the statistics are looked at in more detail, the picture is more mixed. This is quite clearly demonstrated by quarter-on-quarter estimates for output, which are not as strong as the year-on-year figures. Total output for November was 2% below the estimate for October. Comparing September to November 2014 with the three previous months, construction output also fell by 0.9%. In addition to this, when total construction output is broken down into 'all new work' and 'repair and maintenance' (R&M) categories, 'all new work' has performed much more strongly than R&M, the former having increased by 5.7%, the latter by a miserly 0.1%. Housing was the driver of the 'all new work' category, a key feature of the UK’s construction activity that will be discussed in more depth below. Often, levels of estimated output are a reflection of overall GDP growth and vice-versa. The figures described here therefore may have contributed to the revised rate of growth for GDP in Q3 2014, which was decreased by 0.4% this month.
Nonetheless, forecasts for 2015 indicate that overall construction activity is expected to continue to increase. Experian’s latest estimate for overall output in 2015 has been revised upwards from 5.1% to 6.0%, perhaps in part as a result of the Government’s Autumn Statement. In support of this, indices for contract award figures for the UK for the 3 months to December 2014 have surged upwards, strengthening the case for uplifting forecasts for 2015. One example, The Construction Products Association (CPA) overall index for construction contract awards, stood at 138 in December, a 23% increase on a year previously. In spite of this, it must be remembered that the integrity of economists’ forecasts currently rely upon a political status quo. Unfortunately there can be no guarantee of this.
In a national context, there has been a considerable rise in reports of contractors turning down opportunities for work, with their aim to secure jobs that offer a recovery on overheads and a minimal level of risk. Contractors are becoming increasingly demanding, with clients considering proposed procurement routes more carefully in order to obtain competitive prices and a satisfactory number of tenders. Where two stage procurement was the norm in London 6 months ago, this has currently become far more common in cities and regions such as Bristol and the West Midlands.
Prosperous growth in housing over the last two years has been integral to the improvement in fortunes of the construction industry as a whole. This comes as no surprise, since housing accounted for approximately a third of the value of all contracts awarded in the UK in 2014, the largest share of all construction sub-sectors. Given the significant proportion of the industry that housing represents, it is essential that residential activity remains high to sustain overall rates of growth in construction.
The housing sector appears to be well placed to continue to expand into 2015. There are a number of indications that provide good evidence for this. Firstly, estimates suggest that contract award values increased year-on-year by 9.7% in the sector. Importantly, it was not only London that benefitted from this activity, since the highest rates of growth recorded were in Yorkshire and Humber. Secondly, the level of planning activity increased by 21.8% year-on-year, up to £41.9 billion, showing that the housing pipeline is in good health. Thirdly, it is expected that reform of residential stamp duty land tax will kick-start the construction of homes whose development was previously considered unattractive. This will be in addition to the numerous well documented schemes planned for areas such as Barking Riverside and Brent Cross.
There are however some key risks which need to be given consideration. Critically high demand for housing is not a new phenomenon, especially in hotspots such as greater London and areas of the South East. According to a KPMG report which addresses the impact of the housing shortage in 2015, the UK is currently supplying 100,000 fewer homes a year than is required. The fundamental risk to the sector is a broken supply system which has failed to provide appropriate quantities of skilled labour and, even more critically, land. In the 2014 Autumn Statement, the government has attempted to boost the labour market by introducing national insurance tax reforms to those entering work immediately after completing Higher Education. It has also committed to releasing a significant area of underused public land for up to 150,000 additional homes over the course of the next parliament (between 2015 and 2020). This commitment only makes up for 30% of the shortfall, given that in order to satisfy demand, approximately 500,000 additional homes will be needed between 2015 and 2020.
While political overhaul remains a key issue, there is currently more confidence that the key characteristics of major housing policies will be maintained whichever party comes to power in May. This includes 'Help-to-Buy', which was given fresh impetus by the government last year. In spite of this, as explained above, lack of supply (both of labour and willing contractors) is likely to remain the most fundamental issue. House building prices are therefore expected to remain at a steady rate of increase in London and the South East through 2015, while similar rates of increase may be observed in other regions due to resurgent activity in these areas.
Investment in infrastructure will also have a key role in maintaining the resurgence in construction in 2015. However, the forecast for infrastructure in 2015 is relatively unpredictable. Looking back at 2014, infrastructure has not experienced the same steady growth witnessed by its housing counterpart. This is demonstrated by the relatively poor figures for construction activity released towards the end of 2014. Presently, the current climate is dictated by a reliance on private investment for important energy, water, waste and communication projects, thus the method of financing the projects is yet to be decided. In the coming years, the failure of the government to secure this private investment represents a considerable risk; and even if funding is secured, the controversial nature of some projects may prove a further sticking point during public consultation.
Data from Q4 2014 showed that contract award values nationally decreased by 29.7% year-on-year to £12.9 billion. Reflecting this fall in contract award values was a corresponding decline of 30.2% in projects advancing to detailed planning. This represents a concern for forecasts in output, which are not therefore likely to indicate growth for the sector in 2015. Despite this data, there were regions of the UK which have witnessed strong activity in the sector, most notably Scotland, which accounted for 20.5% of all activity in the UK in 2014 and saw a 9.3% increase in activity since 2013. Amongst the main projects to be included in this data are the £1.4 billion Neart Na Gaoithe Offshore wind farm, due to start construction in Q1 2015.
Looking forward, in an update to the National Infrastructure Plan which was published by HM Treasury in December 2014, the government presents a snapshot of forthcoming projects on a region-by-region basis, up to the 2020-21 financial year end. The tone of the report is ostensibly positive, with approximately £327 billion of public and private investment earmarked for major projects across the country. Yet, although the pipeline of work is considerable, only a small proportion of the planned investment will be entirely publicly funded (21%). The remaining 79% of the planned investment will be either partly or fully funded by the private sector, meaning that, as yet, there is no commitment to spending the vast proportion of the pipeline of work. The key over the next 5-6 years will be how successful the government is in securing finance from the private sector, especially given the considerable perceived risks in large infrastructure projects. The success of the government’s finance initiatives such as the UK Guarantees (UKGS) and Contracts for Difference (CfD) schemes remains inconclusive at this stage, although to date UKGS has approved only £4 billion of the £40 billion guarantees available. This evidence suggests that the scheme has not provided an adequately significant stimulus to the sector. With UKGS planned to close in 2016, the government is due to engage urgently with industry on the future of the scheme and to decide how best to proceed.
Meanwhile, allocation of the first full CfD contracts is due to occur in early 2015. As the flagship element of the government’s energy market reforms, the success of this scheme will also be key to the finance secured in the energy sector, which accounts for 52% of the total planned investment in infrastructure. This scheme should in theory provide greater certainty and stability of revenues to electricity generators, so the effects of this reform should become clearer in 2015. Early signs have been positive, since the government has already awarded early CfD investment contracts to eight major renewable electricity projects.
A key point of the Autumn Statement in relation to energy infrastructure reaffirmed the current government’s commitment to developing the shale gas industry. Further funding will be made available for shale gas developments, with £12 billion of planned investment for both oil and gas between 2015 and 2016. Considerable doubts remain as to whether the public can be convinced of the benefits of this type of investment, however the impact of proceeding would have significant consequences for infrastructure in the UK over the next five years. The reason for this is that the current government’s intention is to release proceeds from shale gas investment towards a sovereign wealth fund for the north of England. Thus, a number of key infrastructure projects planned for the north of the country appear dependent on the successful implementation of shale gas investment. Examples of projects that are therefore dependent are the acceleration of the construction of HS2 Phase 2 route between Birmingham and Crewe, a £6 billion investment in the northern road network, a £1 billion investment in the delivery of new trains to rail services in the north and a £300 million investment to improve road links between Ellesmere and Liverpool ports.
A rise in output in the infrastructure sector is therefore by no means a certainty in 2015. The number of recently initiated publically funded projects will not make up for a shortfall in private sector investment. Success in making up the shortfall will depend on whether the economy remains in a position of steady growth. While investment sentiment has picked up in the last year, securing equity, debt or project finance will remain an ongoing challenge for the government, whichever government this is, in 2015 and beyond.
The private commercial sector has shown signs of growth over the last year, with a 26.9% year-on-year increase in contract award values in 2014, up to £10.7 billion. Projects submitted for detailed planning applications has decreased slightly by 5%, however levels generally are significantly higher than 2012. Business investment has increased in 2014 and therefore prospects for growth in the sector remain.
Where London was once the only region of significant activity 12 to 18 months ago, noteworthy performances are now being registered in various regions of the UK. Regions enjoying the greatest increases in activity over the past year have been the East Midlands (+3.2%) and Yorkshire and Humber (+1.6%). Other key regional conglomerates such as Bristol are also reporting improvements in activity levels. These areas are now outperforming London in terms of activity growth, therefore a more even distribution of percentage growth across the UK is expected going forward.
London remained a strong performer in 2014, accounting for 41% of all private commercial activity, however levels remained approximately equal to those from the previous year. It should be noted that 2014 saw the completion of a number of major commercial office developments in the City of London, examples of which were 20 Fenchurch Street and the Leadenhall Building. It would therefore not be a surprise to see a slight ease in activity in the commercial office sector in the first two quarters of 2015 in London. That said, given the list of projects which are either underway or about to commence, such as 52 Lime Street, 60-70 St Mary’s Axe and Battersea Power Station, activity is not likely to remain flat for long.
Overall, there is significant optimism for improved contributions from many regions of the country and burgeoning demand has been witnessed in cities such as Leeds and Manchester in 2014. It is difficult to predict how the 2015 General Election will affect business investor confidence, however the analysis of most forecasters remains positive.
Materials and Input Costs
Despite low levels of CPI inflation and the plunge in oil prices during 3Q and 4Q 2014, this has had little downward effect on traditional construction materials and labour costs.
The continued surge in demand for traditional house-building materials has maintained costs at a low rate of inflation through 2014. The Federation of Master Builders’ (FMB) State of Trade Survey in Q4 2014 showed that 75% of all firms surveyed believed that materials costs would continue to increase in the next six months. The costs of concrete and reinforcement have both showed year-on-year increases in cost, while the cost of structural steel has slightly decreased. With crude oil currently trading at around the $50/ barrel price, a six year low, the downward effect on distribution costs is unlikely to have a significant overall impact on material costs. According to the BCIS, rates of increase to materials costs in Q1 2015 have remained unchanged at 0.8% year-on-year, while the rate of increase is forecast to increase to 1.1% in Q1 2016.
The supply of labour remains an issue in certain specialist areas, especially carpentry, site management, bricklayers, roofers and plasterers. Costs of labour are therefore likely to remain on the increase. The FMB is reporting that 43% of firms expect an increase in wages over the next six months. As an example, the Construction Industry Joint Council agreed a 3% pay rise from June 2015. This was on top of a 3% rise a year previously.
However, globally the World Bank (WB) reports a decrease in world commodities prices over the last 12 months, with oil and metal prices in decline. In addition to the 55% plunge in oil prices, copper has also experienced decreases of 21% in the previous 12 months, although aluminium on the other hand has increased by 6%. The WB predicts a decline in all nine of its key commodity price indices in 2015, provided that the global macroeconomic climate remains stable.
London and the South-East remains the most buoyant of all the UK regions. However, with national contractors now much more selective when tendering and with a considerable risk to the supply of labour, cost indices rises are inevitable.
2014 left the construction industry in a positive mood, with positive output figures forecast for 2015. However, political upheaval in Westminster in May does present a risk to levels of investor confidence in the short term and changes in government may also influence policies in relation to housing and infrastructure in the mid to long term. Nonetheless, the risk of this significantly affecting construction activity is probably insignificant, since the UK’s macroeconomic climate appears set to remain fair for the foreseeable future.
Demand for infrastructure and particularly housing will continue to outstrip supply, regardless of sustained output growth. Despite lower commodity prices in 2015, this lack of supply will sustain upward pressure on tender prices. Our forecast is that rates of increase will reduce slightly in 2016 as the markets even out with small increases to follow from 2017 onwards.