New programs to lock in low rates
Just as high corn, soybean and wheat prices are not forever, cheap money isn’t either. Rates have been at bargainbasement levels for so long that it almost feels that way, though. If you haven’t yet locked in longterm rates everywhere you can, now might be the time.
Commercial banks allow producers to lock in operating lines through a real estate line of credit loan offered by Farmer Mac. This lets farmers borrow against their real estate collateral for an operating loan, which can be used for inputs, consolidating debt and other purposes. "The line can revolve without a renewal free for five or 10 years at a variable rate and can convert to a fixed-rate term loan at any time," says Patrick Kerrigan, Farmer Mac’s director of business development. However, banks do not offer a fixed rate for traditional revolving operating loans. For instance, if a collateral-based line of credit operating loan is for $1 million, it does not revert to $1 million the following year if a farmer pays it off.
Farmer Mac offers a variety of other products that bankers can use, at lower interest rates. For example, its variable-rate loan for good borrowers is less than 2.75%, and a 15-year fixed rate for real estate is 3.5% to 4.5%, depending on loan quality and terms.
"Our lenders and their producers can hardly believe these rates," Kerrigan says. Because the yield on U.S. Treasuries is at a historic low, less than 1%, Farmer Mac is able to pass these rates—through commercial banks—to farmers.
"Once rates turn, it will be hard to react quickly enough. They could jump to 7% or 8% very fast."
Jeff Wolfgram, senior vice president of First Dakota National Bank, says the line of credit provides flexibility for borrowers as they pay interest on the amount of funds that is borrowed. There is no limitation on what the funds can be used for and customers can pay the loan down or off at any time without incurring any type of penalty.
Upside Risk. "I don’t know how interest rates can go any lower," Wolfgram says. "The risk is all on the upside. While rates are so low, why not take advantage of that? Once rates turn, it will be hard to react quickly enough. They could jump to 7% or 8% very fast."
"Our assumption is that interest rates will stay pretty flat for the next 12 to 18 months," says Doug Stark, president and CEO of Farm Credit Services of America. "Beyond that is anyone’s guess. I don’t have a crystal ball." Like Farmer Mac, the Farm Credit System has a variety of lending programs, depending on customer needs and qualifications.
By any measure, rates are at historic lows. As of the third quarter 2012, short-term operating loans averaged 6.01% in the states served by the Federal Reserve Bank of Kansas City, with intermediate loans at 5.82% and real estate loans at 5.55%. To illustrate how much credit has diminished as a farm cost, rates for all three types of loans were almost 8% in 2002 and about 12% in 1989. For a $1 million loan, the difference in interest between those two rates is $60,000. While no one is suggesting rates are going back to 12% anytime soon, it illustrates the risk you take by not locking in every rate you can.
"If you are a farmer with a real estate loan, I would fix the rate," advises Jeff Swanhorst, chief credit officer of AgriBank in St. Paul, Minn. "There are a lot of risks farmers take, and not fixing interest rates is one of them." In his view, using floating rates when they could be fixed is an unnecessary risk.
Even so, Swanhorst agrees that rates are likely to continue in record-low territory for 2013 at the very least and possibly for the next couple of years. "At some point they will turn," he says.
While some lenders are tightening lending standards, Swanhorst maintains that Farm Credit is not. "We’ve always had fairly high standards. It protects us."
One way it does so is on farmland loans. If a piece of ground sells for $13,000, Farm Credit may loan only up to $6,000 of that, he says. Right now, loan quality is extremely high, eclipsed only, and just barely, by 2004, 2005 and 2007. "We continue to see improvement," Swanhorst adds.
Credit Picture Gets Even Brighter
As of Oct. 1, the average interest rate for agricultural operating loans was 5.21%, compared to 4.86% for real estate loans, according to the Federal Reserve Bank of Chicago’s latest banker survey. Both were new record lows for Iowa, Indiana, Illinois, Michigan and Wisconsin. Illinois had the lowest rates, while Wisconsin had the highest. According to survey responses, more collateral was required by 7% of the banks, while less collateral was required by just 2% of the banks.
Looking forward, bankers expect ag credit conditions to improve outside of Wisconsin. Bankers predict forced sales or liquidations to edge down in the next three to six months across the district, except in Michigan and Wisconsin. In addition, bankers expect loan repayments to increase into 2013, a positive indication of the financial health of most borrowers.