2015 Outlook: Off-highway markets mixed

The U.S. economy ended 2014 on a very positive note. Gross domestic product (GDP) for the second and third quarters was revised up, to 4.6% and 5% respectively. Improving job and income trends and reduced inflation all point to potentially stronger GDP growth in 2015, perhaps near 3% compared to about 2.4% in 2014.

The global economic picture, however, isn’t quite as bright, with only modest growth likely in 2015. Economic growth in Europe has stagnated, Japan and Brazil slowed markedly in 2014 and perhaps have fallen back into recession, and the Chinese economy shows ongoing signs of deceleration as it shifts from an export-focused economy to one fueled by domestic spending.

The U.S. will likely be stronger throughout most of 2015. The good news globally is that inflation pressures remain subdued and monetary policymakers in Europe and Japan are likely to adopt some form of quantitative easing similar to that used by the U.S. Federal Reserve to stimulate economic growth. This suggests improving consumer and business demand during the next 12 months. The downside – the euro, pound, and yen will weaken toward low levels not seen in recent years as the dollar becomes stronger. Export demand for U.S. products will likely lag and face extreme price-competitive conditions.
 

The big picture

Growth in the off-highway segment will likely be uneven. The general domestic construction sector is likely to be one of the major drivers of growth in 2015. The outlook for housing and many parts of non-residential construction continues to improve at moderate rates, suggesting that the low double-digit growth of 2014 for general construction equipment will likely be followed by mid-single-digit growth in 2015.

However, mining equipment demand will probably remain subdued, and the agricultural sector is facing a dramatic falloff in sales in 2015.

The new wrinkle is the impact of the sharp decline of oil prices as we enter 2015, which will affect upstream drilling activity and delay many downstream projects.
 

Construction equipment

As interest rates remain low, housing demand should continue to rise moderately as housing starts rise from just under 1 million in 2014 to around 1.16 million in 2015, according to the National Association of Home Builders, and with potential to reach more normal levels of 1.45 million to 1.5 million in 2016.

CMD (formerly Reed Construction Data) points out that house prices are recovering fastest in many previously distressed areas and that house prices-to-income ratios are currently close to historical averages in most large metropolitan areas.

Non-residential construction continues to trend positively and is on track for continuing modest gains. Total spending through November 2014 is up 5.7% from the same period in 2013 with private non-residential spending up 10.8%, driven by strength in commercial and industrial segments (lodging, office, and manufacturing), in line with the expected low double-digit gain. That growth compares to a 1.1% gain in public spending – a 1.6% increase in state and local spending has offset the 4% decline in federal construction expenditures. Private non-residential spending ought to be able to grow mid-to-upper single digits in 2015 and 2016 (estimated at least 4% to 8%) as the U.S. economy expands.

Headwinds include less government spending on schools and infrastructure, less retail as consumers switch from stores to online buying, reduced office space per employee, and a potential fall-off in energy related outlays, particularly in the shale/fracking segment.

There is upside to public spending in 2016 and beyond if the politicians can ever agree on a new infrastructure spending program; the U.S. Highway program has been running on continuing resolutions since September 2009.
 

Mining equipment

There are still problem areas in the construction industry, most notably the mining sector. Mining equipment demand continues to be weak, although recent data show that conditions are beginning to stabilize in the United States.

However, a Supreme Court ruling by June could potentially restrict recent U.S. Environmental Protection Agency (EPA) regulations on emissions (mercury, carbon, and others).

If the Court does not constrain the EPA, an estimated 60 or more power plants could close in the U.S., significantly decreasing coal demand and production.

With global non-coal commodity prices remaining depressed due to world economic conditions, mining equipment demand will likely remain soft – at least through 2015 – with maintenance and modest replacement to enhance productivity the only identifiable drivers of demand.
 

Agricultural equipment

The farm sector is a casualty of the commodity crisis as huge bumper crops have increased crop carryovers, causing prices to plummet. Purchases of large farm equipment during the past 5 years has grown to 120% above normal levels and now face reduced demand, reflecting weaker farm fundamentals. Without financial tax incentives (bonus depreciation, Section 179), look for farm equipment demand to fall at least 25% to 30% in 2015 with production declines in bigger row crop equipment of perhaps 40% or more.
 

Energy spending

The price of oil has plummeted, with a new normal of $50 to $70 per barrel. This should curtail oil and gas upstream spending, dampening the shale boom. A potential offset would be increased downstream spending since the U.S. is woefully under-invested in pipelines, liquefied natural gas (LNG) export terminals, and infrastructure to move oil and gas to market. A potential bright spot would be favorable action on the Keystone XL pipeline.

Though mining, farm and energy-related equipment demand may remain soft, at least through 2015, most general construction market outlooks remain bright for the next several years, a factor that should drive increased demand for equipment. We believe our projected mid-single-digit growth forecast for 2015 for construction equipment is sustainable for at least the next several years.

Longbow Research
www.longbowresearch.com

About the author: Eli S. Lustgarten is senior vice president and senior research analyst for the Industrial Manufacturing and Technology sector at Longbow Research and can be reached at elustgarten@longbowresearch.com.