J.P. Gervais has heard the question many times: is farmland over-priced in Canada?
Gervais, chief agricultural economist with Farm Credit Canada, doesn’t like to answer that question directly.
Nonetheless, it’s become clear to economists like Gervais that fantastic increases in land values over the last five to seven years will soon come to a halt.
“The value of farmland and buildings is projected to continue appreciating but at a slower pace: annual average increases of four percent in 2017 and one percent in 2018,” the FCC said in a report released mid-September. (PDF format)
“This declining rate of increase (for land values) will mainly be the result of projected softer growth in farm cash receipts and higher borrowing costs.”
If the FCC forecast is correct, it represents a major change for farmland prices in Canada. From 2011-16, values across Canada increased, on average, more than 10 percent a year. In certain years the gains topped 16 percent.
Gordon Daman, a farmland appraiser in Manitoba, said it’s clear that things have changed.
“We had some years where we had seen increases anywhere from 15 to 25 percent (in Manitoba),” said Daman, president of Red River Group in Niverville, Man.
However, the hot market for farmland has cooled over the last 18 to 24 months, he added.
“The increase that they (FFC) are projecting for this year, at four percent, that’s an average,” Daman said, adding he supports the FCC numbers.
“I would say within Manitoba it’s probably anywhere from two to six percent, depending on where the area is.”
Daman described the recent pullback in land prices as stabilization. Prices are still rising, but not as fast.
“We’re not seeing a decrease in actual land values,” he said.
We’re not talking about market contraction.”
In its report, the FCC said there is a strong correlation between farm incomes and land prices. When farm cash receipts rise, land values usually go up.
Gervais and his team at FCC believe the growth of farm cash receipts could become sluggish in the near and medium term.
That may rein in the price of land.
“If you’re generating more income from your asset, it’s to be expected that your asset is going to gain value,” Gervais said.
“What we’re saying is, right now we expect farm income in the next 10 years to look a bit different than the last 10…. Yes, incomes are still going to grow, but at a slower pace.”
Farm cash receipts in Canada grew from $40 billion in 2007 to $60 billion last year, a gain of $2 billion a year.
“It’s been spectacular…. There’s been tremendous growth,” he said.
“Demand for Canadian (ag) commodities is absolutely strong.… There is a lot of wealth on the Prairies.”
It may be difficult to sustain those gains if the loonie, now around US80 cents, moves higher.
A strong loonie makes Canadian commodities less competitive on the global market.
“The Canadian dollar does play a big, big role in farm income,” Gervais said.
Cost of borrowing
Interest rates also play a big role in land prices.
The Bank of Canada hiked its interest rate twice this summer, and further jumps would increase the cost of borrowing for farmers.
Daman pointed to other factors that are keeping land prices in check.
For one, pension funds and other investors may be backing away from farmland.
“Anecdotally, I don’t see the level of institutional buying that we would have seen three, four or five years ago,” he said. “We know in Saskatchewan that took place because the provincial government made some legislative changes to essentially impede that from happening at the same speed it was.”
As well, land prices may have reached a point where farmers can no longer finance an additional purchase.
When producers bought land at $4,500 or $5,000 per acre, they used equity in their existing land, purchased possibly at $1,500 an acre, to make the deal work.
But that sort of financing falls apart if a larger percentage of the land base was purchased at a higher price. In other words, the farmer still owes a substantial amount on that mortgage.
“You can only do that so long because what happens is you don’t have enough equity in place,” Daman said.
“Some farmers are stretched (financially)…. There’s no question that this has impacted (land prices).”
Most Canadian producers are in good financial shape when it comes to solvency, or debt to asset ratio, the FCC report said.
However, rising interest rates will make it harder to pay down their debts.
Slower growth in farm incomes and higher debt payments may alter the psychology of Canadian producers when it comes to risk and buying more land, Gervais said.
“It could be a bit of a different mindset, moving forward.”