Commercial property building cost index shows mild rise

The revised FNB CPF (Commercial Property Finance) Commercial Property Building Cost Index for the first quarter of 2008, constructed by Industryinsight, indicates a mild rise in year-on-year inflation after something of a lull late last year.

From a year-on-year rate of 9.9% in the final quarter of last year, the overall inflation rate rose back into double-digit territory in the first quarter, to the tune of 14,6%.

This, according to John Loos, Property Strategist at FNB, is a very similar situation to the Residential Property Building Cost Index, released recently, which also showed a mild up-tick.

The index reflects the average building cost per square metre, as priced by building contractors when winning tenders. As such, therefore, it reflects the combination of
contractors’ input costs, their own pricing power which varies over time due to market conditions, and the standard of the property developments in question (also often a function of market conditions).

At the current stage, with a weakening economy and rising interest rates, Loos says one would think that demand growth for commercial property, and thus pricing power of
contractors, may be coming under some mild pressure despite low vacancy rates in office and industrial space. Therefore, it would seem plausible that the renewed increase in building cost inflation has much to do with a renewed rise in building input cost inflation.

Other indicators would seem to support this notion. After dipping significantly late last year, the producer price inflation rate for building materials has begun to rise
once more, following in the footsteps of the broader commodity-led inflationary environment.

From 7,9% year-on-year in January, the Producer Price Inflation rate for building materials had reached 10.3% by April. The JBCC index’s inflation rise was not too dissimilar from 7,.7% in December to 11.7% in March year-on-year.

Moving into the sub-sectors of commercial property, Loos says that only office property building cost inflation was still moving slightly lower in the first quarter, registering 11,2% after a solid 14,6% in the previous quarter.

Coming off a lower base, retail property cost inflation accelerated from 10% in the final quarter of 2007 to 15,2% in quarter 1 2008, while the Industrial property sector building cost index had a more pronounced acceleration from a lowly 2,5% in the previous quarter to 18,6% in quarter 1.

Loos says the the general economic conditions have been ripe for a rise in input-driven building cost inflation for some time. Global oil price hikes have driven domestic petrol and diesel prices higher, not to mention the rampant state of commodity prices in general.

The rand has not helped matters from an input import/trade point of view. Year-on-year, the average depreciation in the trade-weighted rand for the first five months of 2008 was –13,2%, compared to only –1,7% for the second half of last year.

In addition, the overall construction sector growth rate keeps steaming along, having recorded a quarter-on-quarter annualised real growth rate of 14,9%, a slight acceleration from the previous quarter. This growth is arguably driven most by the proliferation in civil construction projects, and implies that the commercial property building sector is required to compete domestically for certain inputs.

Therefore, the mild up-tick in the FNB CPF Commercial Property Building Cost Index during the first quarter may well be the start of a rising trend in subsequent datapoints, given the strong inflationary environment in which SA finds itself.
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