When you consider annual earnings, security of principle and appreciation, American farmland is a solid performer.  Farmland’s performance is driven by an increasing value of the crops it supports.

Demand From Home and Abroad

There will continue to be solid demand for all of America’s crops but especially those crops which can be used as feed for animals. World population growth will add another one billion people in the next 12 years. This fact is already pressuring the world’s food resources dangerously close to their breaking point. Low worldwide carryover of grain stocks will force price rationing.

China and India are voracious consumers of the world’s grain. Their diets are changing to include more protein and the demand for grain for feed will increase also. Since it takes roughly four pounds of corn to produce one pound of pork, a 10% increase in pork production requires an additional 1.1 billion bushels of corn (2011 US corn crop was 12.4 billion bushels). China’s growing middle class, is already larger than the US’s entire population, will continue to demand more pork, beef, milk and cheese into their diet.

Some have linked the Arab Spring uprisings of 2011 to the failed Ukrainian wheat harvest of 2010. Higher wheat prices provided a catalyst for protestors in Tunisia, Bahrain, Egypt and Libya to take to the streets risking life and limb to protest high food prices, corrupt politicians and totalitarian regimes. China took notice and increased its grain purchases in the world markets to help mitigate these pressures at home. They also stepped up direct investment of several farming projects worldwide.

US farmland benefits from these changing emerging markets without having the risks associated with a direct foreign investment in these markets.

Ethanol production currently uses nearly 40% of the US corn crop and is growing. As other bio-fuels like switch grass come online, they too will compete with corn and soybeans for high quality ground.

The American Farmer

The American farmer has been the greatest recipient of the changes in foreign and domestic demand. In addition, government backed revenue insurance has greatly reduced the downside risk for the farmer. This safety net enables him to purchase larger more efficient equipment to work more land in less time thus increasing his productivity and profitability.

Advances are continually being made to the corn plant genetics. Increased yields, a greater resistance to pests and an increased ability to grow under drought-like conditions are just some of the advances being made.

This increase in profitability has left the farmer in a very strong financial position. Gone are the days of heavy leverage in the farm sector. The crash in farmland values during the 1980s was the result of over leverage and speculation. Much of today’s farmland is purchased with cash by the local farmer. The strength of his balance sheet allows him to be the most aggressive bidder for land.

A Hedge Against Inflation

Using farmland can be an effective hedge against inflation. Since 1970 farmland has been positively correlated with inflation while returning 11.9% and exhibiting less volatility than traditional asset classes. These assets such as equities, bonds and commercial real estate are all positively correlated to each other while showing a low correlation to farmland. Farmland provides true portfolio diversification with less volatility. Farmland can be a better inflation hedge than gold since it has provided both real long term capital appreciation of 4-6% per year and a reliable current yield cash flow of 3-6% per year. Thus, it acts like gold with a coupon.

Because of farmland’s positive attributes there has been an increasing institutional awareness. Institutions currently hold less than 2% of all farmland in the United States. There are only 2 institutions which manage more than a billion dollars of farmland compared to over 100 which manage that same amount in stocks and bonds.

 

 “Buy land, they ain’t making anymore of it” Mark Twain.

Farmland is a prudent investment for several economic reasons…limited supply of land in a world with a growing population of people who demand more food, inflation hedge, safe harbor and income appreciation from higher yields or rents. In addition, there are special situations that put the prudent investor in position to get greater returns or take less risk.  Buying, managing and selling to capitalize on several special situations create unusual investment opportunity.

Development opportunity. Buy in the path of development. Opportunities occasionally exist to buy development land at farmland prices.  These investments justify themselves on rent income and have the imbedded advantage of a cheap or free call option on future development potential.

Underpriced quality. Some situations result from incorrect pricing based on a soil quality analysis.  Some soil types occasionally sell at a 20 percent price discount to the same soil 30 miles away. Finding such underpriced opportunities creates immediate value.

Under managed land.  Some opportunities exist on farmland that has a wet area needing tile. Farmer buyers shun such farms because they create costly planting and harvest delays. Buying a situation like this, investing in drainage tile, adding tillable acres frequently creates significant value.

Breakup opportunity.  Some opportunities exist in markets where houses and buildings create a discount to the value.  Buying the entire property and selling off the parcel with the buildings occasionally creates significant value.

Land creation opportunity. Farms with rocks, trees, driveway lanes and other obstacles can occasionally be dramatically improved with some land clearing techniques….burying rocks, burning trees and creating additional acres.

Cash now opportunity. Sellers with an urgent need for cash sometimes discount the value of their land by 10 to 20 percent.  Buyers prepared to close a deal in 30 days occasionally are handsomely paid for their ability to act quickly.  Buyers with this decision making capability get the first look at many deals, some of which get sold before the market hears about the deal.

Negotiated rent opportunity. Skillful negotiation of variable rate risk share/profit share leases with financially strong tenants sometimes increases the rate of return by 25 to 35 percent. These negotiations are completed with producers who know how to use commodity futures markets and crop insurance to mitigate risk and maximize upside potential, then share these benefits with the knowledgeable owner.

Tired listing opportunity.  If land is priced too high, local buyers reject the seller as not being serious. Buyers skilled at smoking out tired listings occasionally find discouraged and willing sellers nine months later.  Investors advised by experienced, sophisticated buyers who know how to size up and negotiate these special situations put themselves in the best position to maximize their farmland investment dollars.