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Watch for Red Flags in the Farmland Market

November 16, 2012
By: Ed Clark, Top Producer Business and Issues Editor
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How do you term recent farmland sales in the Midwest in excess of $20,000 per acre? "Irrational exuberance," in the view of Brent Gloy, director, center for commercial agriculture, Purdue University.

Major jumps in exports were behind all four of major agricultural booms and increases in farmland values over the past century, this farm boom being no exception, adds Jason Henderson, economist with the Federal Reserve Bank of Kansas City. They both spoke at the American Bankers Association National Agricultural Bankers Conference in Milwaukee, Wis.

Power Hour webThe 2012 drought has not slowed down the rise in farmland values one whit, two years’ running of more than 20% year-over-year increases in the heartland. The drought’s only influence has been to increase the value of irrigated farmland faster than non-irrigated farmland the last couple of years, Henderson says.

One difference between this farm boom and the 1970s overall is that the debt-to-asset ratio this time around is low as many purchases have been made or mostly made with cash. But that could change. "When inflation hits the system, farmers will pile on debt," Henderson predicts.

In his view, bankers will be getting more calls from customers to participate in farmland loans. Moreover, while debt-to-asset ratios are low overall, a small percentage of producers hold a disproportionately high level of debt. "It’s not necessarily the debt, but who has it," he says. "The risk is in the tails." That means those with high levels of debt could have a big impact on the ag economy once the cycle turns.

There are warning signs that producers should not ignore, these experts say. A big one is USDA’s prediction that U.S. exports will plateau in the decade ahead. Moreover, at the same time production is gearing up here, our competitors are doing the same. For example, from 2000 to 2012, South American production of corn, soybeans, rice and wheat increased by 48%, while output in Former Soviet Union (FSU) nations increased by 26%.

Another is that the growth in corn demand for ethanol demand is likely to slow if it grows at all unless cellulosic ethanol becomes a marketplace reality, Gloy says. The good news is that ethanol is likely to continue to remain to be a large market for corn, but the rapid growth since 2008 is probably over. As a result, as corn production increases, corn ethanol as a percentage of total use will shrink modestly.

Another red flag, Gloy says, would be this: "Interest rates go up, but farmland values don’t come down." He adds that in the present environment, "costs can get out of control very quickly." The first lines of stress will be operating loans, he adds.

One concern is that "some out there are very bullish; 25% think corn prices will be $6 on up," he says. Trend yields could mean corn prices around $5/bu., possibly less, this coming fall, economists predict. As late as June, many were predicting $4-something corn fall 2012. The drought changed everything.

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