By Tom Schenk, TerViva’s Director of Business Development
A good case can be made that over the last 10 years, most of the “easy” money has been made in farmland investing. Corn, soybeans, wheat, and many other commodities more than doubled in price over their prior decades, and then maintained those levels – until this past year. Surges in worldwide demand and weather-related shortages primarily fueled this explosive rise in prices.
Farm income rose sharply as interest rates plummeted and suddenly a once-sleepy asset class called farmland (and agriculture in general) became the darling of hot investor money. As investors swarmed to this asset class, farmland prices were bid up even faster than lease rates were rising.
Farmland that once fetched an 8% cap rate declined to 3% and in some cases even lower. Total annualized returns (lease income + land appreciation) ballooned to 15% and many expected those returns to stay close to those levels far into the future – until this year. Additionally, tillable acres worldwide grew sharply as technology improved farming methods and varietal yields.
So in 2014, faced with a worldwide surplus of grains, we are reminded once again of the fundamental laws of supply and demand.
Farmland values are related to lease rates. Lease rates are related to farm incomes. Farm incomes are related to crop prices, input costs, and tax rates. And none of the latter has been kind to profitability. Growth in profitability drives appreciation expectations for this asset class.
As a result – and in the near term – investors are dreaming if they are expecting traditional row crop farmland returns beyond their current lease rate. Row crop farmland has entered an “adjustment” period where crop supply/demand ratios slowly re-align, where land prices re-align with rental rates, and where rental rates re-align with farm income. This is nothing new in agriculture world, but certainly may be for investors new to this asset class.
But rather than concluding on a gloomy note, I’d like to leave readers with two thoughts.
- Finding/creating alpha from this asset class will take some thinking outside of the box. In other words, instead of passively owning traditional farmland and riding the commodity cycles up and down, explore ways to proactively drive your own returns.
Advances in precision farming have the ability to make the land, inputs, machinery and the farmer more productive. However, converting to precision farming is expensive and especially at current crop prices, can take many years to just break even.
Agriculture will always need supporting businesses, handling, and processing infrastructure assets. Opportunities should be explored here, as well.
And finally, another approach for traditional farmland investment portfolios may be to add an “alternative” crop that can be grown on under-productive or low-value land. Though it is a shameless plug, the oilseed tree crop called pongamia is one such crop that, to date, is showing extraordinary promise to achieve just such a goal on abandoned citrus land in Florida as well as abandoned pineapple and sugar land in Hawaii.
- The final thought here is a macro observation about investing in general in today’s crazy world. I attended one of the top business schools, and worked in Wall Street firms for 36 years specializing in commodities and money management and I am completely dumbfounded at where we find ourselves today. I was taught that a healthy economy saves and thus creates capital to invest in the production of goods and services and good things result for the society as a whole.
The “Quantitative Easing” experiment that the central banks have embarked on has little precedent and even fewer beneficial results for employment or the economy as a whole. Years of artificially suppressed interest rates have resulted in mis-allocating capital and mis-pricing risk across all asset classes. Japan has probably the longest experience in following this politically expedient money-printing experiment and is a good place to look to for a preview of what we can expect in Western economies. There is a mind-blowing quantity of: debt, leveraged debt, trillions of derivatives and swaps written on this debt. Let’s be clear: nothing tangible is created other than esoteric derivative paper instruments or making the spread off borrowing from the Fed and investing in Treasuries!
Just like Will Rogers quipped years ago, that he is more interested in the return of his money than the return on his money, so too should investors be today. Farmland is truly a real asset – and it cash flows. (Not even gold can make that claim.) People will always have to eat. Farmland is always taking the energy from the sun and the rich earth and creating food. Even at today’s low returns, there are few better places to store one’s wealth until this economy returns back to some fundamental economic reality. If you own farmland, sleep well.