Farmland yields more than just crops; 12.5% return over past 20 years
Oct 15, 2009
Farmland is unlike any other investment as it can weather economic storms, yield consistent returns, act as a hedge against inflation, and pay investors for holding it. U.S. farmland values have increased roughly 6.7% over the last 20 years and 4.5% over the last 100 years. U.S. farmland has also paid its owners cash rents of roughly 5.8% of its value since 1987. When combined, farmland has returned to investors 12.5% per year over the past 20 years.
Farmland has performed well over the past five years due to the ethanol boom, especially in the Corn Belt. Strong ethanol demand, low crop supplies, increased exports, and a weak dollar led to a spike in grain prices. The large increase in grain prices translated into a substantial increase in farmland values.
Over the last 100 years, farmland has experienced consistent gradual returns. Farmland prices have only declined in three brief instances; the Great Depression, the inflation boom of the early 1980s, and in 2008. Farmland values are based on expected long-term returns, and values do not fluctuate with small changes in commodity prices and farm income.
Cash rents have yielded roughly 5.9% of since 1967, although the yield has declined from 6.7% in 1967 to 4.1% in 2008. The cash rent as a percentage of cropland value has dropped over the past few years primarily due to the substantial rise in farmland values. Cash rent yields have increased from the nadir in 2007 and we expect the yield to continue to approach the historical 40 year average of 5.9% as farmland incomes rise.
Strong balance sheets
Strong agricultural fundamentals have allowed farmers to strengthen balance sheets. Current debt to asset ratios of 9% are at 40-year lows. The minimal amount of leverage used is very favorable to farmland investors and will limit investors’ potential downside loss.
In the late 1970s, farmers used low interest rates to increase debt to over 20% of assets. The sharp rise in interest rates in the early 1980s used to fight increasing inflation put significant downward pressure on land prices. This led to a surge in farm bankruptcies and agricultural bank closings. In the 1990s, farmers used debt sparingly, which has led to financial stability in the farm sector over the past 20 years.
Strong correlation with inflation
Historically, farmland values have maintained a high correlation to inflation, often times outperforming during high inflationary periods. Agricultural land in Kansas has had a correlation of 0.94 with inflation from 1880 to 2002 and land in Alabama has had a correlation of 0.98, according to Kansas State University (Correlation is expressed on a scale from -1.0 to +1.0. The closer to +1.0 implies that both variables move in the same direction).
Gold is the asset typically relied on during high inflation periods, but farmland offers something that gold does not; intermittent cash flows. Farmland not only offers you protection from inflation, it also pays you to own it.
One of a kind investment
An investment in farmland offers investors a one of a kind opportunity. Farmland’s consistent track record, high cash rent yield, and ability to hedge inflation place farmland in a category by itself. Farmland also provides a margin of safety to investors, as stock prices can go to zero, but farmland will always have some value.
Read more about farmland and agriculture at farmlandforecast.colvin-co.com/.