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Commercial Construction Surges as Demand Counters Higher Labor, Materials Costs

Looking Ahead: Construction Projects Grow at a Double-Digit Rate as Industry Demand Peaks
July 5, 2018
Facebook's planned data center expansion near Omaha, Nebraska. Forecasts call for commercial construction to surge into 2019



Robust commercial construction is projected to carry through the second half of 2018 and into next year, overcoming a shortage of skilled workers and any effects of tariffs on the cost of lumber, steel and other building materials.

Total U.S. spending on new construction and engineering is projected to rise 6 percent and surpass $1.3 trillion for the first time by the end of this year, exceeding the 4 percent increase for all of 2017, according to construction management and consulting firm FMI Corp. The gains will be powered by an almost 10 percent increase in transportation, residential and office projects, FMI reports.

Building on that forecast, the Commerce Department reported Tuesday that total U.S. construction spending rose 0.4 percent in May from the previous month, with spending at a record $1.31 trillion on an annual basis. Multifamily construction jumped 1.6 percent in May, while single-family building rose 0.6 percent.

"As we enter the dog days of summer, the weather isn't the only thing getting hot. Construction spending is heating up just as much, about a 50 percent increase in total growth from last year," said FMI Managing Director Jay Bowman. "What's even more impressive is this will mark the seventh straight year of growth since 2011, one of the longest sustained periods we've ever seen."

About 150 million square feet of offices were under construction as of June 30, up slightly from the 144 million square feet under way a year earlier, according to CoStar data. That's more than the historical annual average of 126 million square feet under construction, the data show.

Nonresidential building starts were up 18 percent in May, boosted by transit projects in Los Angeles and Boston that are each valued at more than a $1 billion, and the start of a $1 billion Facebook data center expansion in Nebraska. Other large projects included the $764 million expansion of the Washington State Convention Center in Seattle and a $740 million airport terminal project at Salt Lake City International Airport, according to Dodge Data & Analytics. Total new construction starts rose 15 percent in May from the previous month to a seasonally adjusted annual rate of $783.6 billion, according to Dodge. The increase follows a 12 percent decline in April, with total construction activity reaching an eight-month high.

There are signs of slowing for next year. Annual new office construction starts are declining and deliveries are forecast to peak this year. With supply largely in check with demand in most cities, average U.S. rents grew at roughly 2 percent while occupancy hovered near 90 percent during the first quarter, according to CoStar Portfolio Strategy data.

Ken Simonson, chief economist for Associated General Contractors, warned that growth in private nonresidential spending remains modest and inconsistent. Rising costs for materials and shortages of qualified workers "may stall all kinds of projects," he said. The rising cost of steel and aluminum, which could stem from tariffs imposed by the Trump administration, may make some projects unaffordable, according to Associated General Contractors.

Even so, total construction spending is projected to increase by double digits in Nevada, Arizona, New Mexico, Missouri, Florida, Maryland and Virginia in 2018, according to FMI's Bowman. And the spending is increasingly concentrated, with 20 U.S. markets representing half of all expenditures over the next five years. At the state level, California, Texas, Florida and New York comprise 50 percent of total construction spending.

Total spending next year is forecast to increase at a slightly lower 5 percent, still well above the historical rate of inflation, Bowman said.

Office building construction spending is projected to rise to $74.8 billion this year from $68.8 billion last year, a 97 percent increase over the $38 billion in 2013, earlier in the recovery, according to FMI. Construction of industrial and retail properties is projected to increase from last year's $87.3 billion to $91.3 billion this year.

Multifamily construction spending will increase a modest 4.4 percent to $71.8 billion, according to FMI.

Editor's note: This is the fourth story in a series on the commercial real estate outlook for the second half of 2018. Links to the other stories in the series are below.

MULTIFAMILY OUTLOOK: Multifamily Investors Are Getting Used to 'Normal'

OFFICE OUTLOOK: Office Landlords Expect More Deals as Shared-Workspace Companies Grab More Space

RETAIL OUTLOOK: Mall Makeovers, Big Box Availability Benefit Retail Growth

INDUSTRIAL OUTLOOK: Retailers, Logistics Firms to Drive Industrial Property Demand in Coming Months



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