Rising prices since the turn of the century have made farmland an excellent investment, but is it still affordable for producers to own the land they farm?
It depends, the chief agricultural economist for Farm Credit Canada told people attending Crop Production Week in Saskatoon Jan. 9.
Jean-Philippe Gervais said producers need to look at their crop receipts and interest rates to answer the question.
“As long as these two variables make sense in your business plan, the answer would be yes. It’s a case-by-case issue,” he said.
“You need to look at your own operation and where you are. Are you looking at winding down and not expanding any more, or are you looking at expanding?”
He said producers today are in a different “sandbox,” a description he coined to compare past and present economic time frames.
“Prices have been playing in a high price and a high volatility environment,” he said.
“That’s been going on since 2005. We have data that says between 1990 and 2005 it was a totally different game back then. It was a low price, lower volatility environment.”
Gervais describes two kinds of producers: those who see the market as dynamic and don’t want to hear about the market backsliding and those who worry.
“Are we ever going to get back to that sandbox? Some people believe no, we’re in a totally different kind of world right now. There’s growth in the emerging markets, expanding middle class, rising demand for food. There are others that think that at one point we will get back there,” he said.
“And there is me, in the middle, that says we’re likely to see this sandbox move again at one point, maybe with lower prices, lower volatility as soon as we get past this very tight supply situation.”
Gervais said he doesn’t see prices falling or interest rates rising anytime soon, but he warns producers to be careful and build in for the “what if scenarios.” He cautions them not to look at the low interest rate situation in the United States and assume Canada will follow suit.
“I think we make too many mistakes when we look at interest rates (alone),” he said.
“ ‘The U.S. is not going to raise interest rates until 2015, so we’re good.’ I think that’s a big mistake,” he said.
And then there’s the weather, particularly in the U.S.
“Most weather experts believe the U.S. will not be able to catch up with trends for major crop yields, which means the yields for next season below trends,” he said.
“Let’s just be careful with what we’ve seen in terms of crop receipts because right now with crop receipts what they are, land values do make sense, but if crop receipts come down, that could trigger a correction in land value,” he said.
Earl Smith, who manages land for Canadian investors, said his company saw a niche market two years ago and today manages more than 50,000 acres, primarily in Saskatchewan.
He said two kinds of buyers are driving up the price of land: the farmer buying up a lot of land and the investor.
“For farmers, interest rates are low, equity is increasing, they’ve got leverage ability and commodity prices are strong. If they’ve got some land paid for they can make it work,” he said.
“For investors, agriculture is a hot investment area right now and it’s people who are looking for another option to gold as a secure inflation hedge and something that will be around for awhile.”
Smith, former senior agricultural lender with Royal Bank, said land is a good investment both for farmers and those looking for a reliable asset, despite the recent rise in farmland prices that have doubled average values in the past decade.
“Farmland is a low investment risk and it has some nice features,” he said. “It’s sort of gold with a dividend. It’s countercyclical, it’s a good inflation hedge, it’s a good diversification for an investor.”
He and his partner work with farmers largely in flexible business arrangements, as well as cash rent scenarios.
“There is an interest in a more modern version of the old crop share scenario for both investors and producers,” said Smith, vice-president of groPartners Farm and Land Management.
He said attitudes are shifting as young farmers become more interested in the joint venture model as a risk management tool.
“I think this younger group are more interested in how much money they can make, in the profit, getting bottom line, maybe taking some of that money and investing it outside of agriculture,” he said.
“I think the young guys are less focused on the ownership, and my advice to them is own some land because it’s been a great investment. You’re in the business, you understand it, so you want to own it and build some equity in it, but not too many young guys can afford to own all they need to get to a viable size. They need some options.”
Gervais said farmland values have only just passed the point where they are parallel with the mid-1970s.
“On a straight cash rent deal, there is still a profit to be made for the land owner, depending on the price of the land (and the rent),” said Smith.
International investors are looking for land, but foreign land ownership restrictions keep them out of the market.
Smith said that hasn’t stopped some foreign interests, mainly Chinese, from approaching him, but he has declined to get involved.
Gervais said Canadian investors also find farmland attractive.
He said demand for food for an increasingly wealthy world means the low grain and oilseed prices that existed for most of the 15 years beginning in 1990 will not likely be seen in the future. Even moderate increases in interest rates won’t push farmland prices down in Western Canada, he added.
Gervais said cropland is no more expensive today than it has been over the past 40 years, when adjusted for inflation.
Land will remain affordable for many producers unless grain prices slip and margins fall a great deal, he added.
Smith said prices would be affected if producers’ margins became too tight.
“Both investors and farmers are driving up the price right now,” he said.
He said local farmers set the high benchmarks by buying another piece of land to fill out a farm holding or for a local or personal reason that fits their farm. Outside buyers then look to that as a price on which to base their offers.
“We haven’t seen institutional investors come in as they don’t see the returns beyond capital investments and there is a lack of liquidity in farmland deals,” said Smith.
He said commercial real estate investors are pulling back because they see the current farmland market as being too hot.
“I don’t think this run up will continue, but it’s not a bubble because there are buyers and sellers and the land isn’t priced much beyond its intrinsic value,” he said.
I think there will be a cooling and a little dip and then it will start going up again.… Not an ’80s, long-term dip.”