Alternative Outlook

Farmland as an alternative investment

Introduction to Farmland

As an asset class, high-yielding farm land is becoming more valuable as the world’s population is grows and the demand for food increases: currently the global population increases by 75 million each year and is forecast to reach 2.3 billion by 2050. That’s a lot of extra mouths to feed! This will require a 70% increase in global food production, yet the total amount of farmland in the world can only increase by small amounts and the amount of arable land per person on the planet has halved in the last 40 years.

Furthermore, as living standards rise in emerging economies demand for meat also rises:  for example during the 1980’s each person in China ate 20kg of meat per year on average. By 2009 that had increased to 50kg of meat per year.  This requires ever greater amounts of land to provide animal feed as it takes 7kg of grain to produce 1kg of meat.

With these kind of global pressures crop prices, and hence the price and the rents of farmland, will rise – perhaps very steeply.

We’re already seen evidence of this. The price of staple crops has risen by more than 80 per cent since 2005, according to the World Bank. There were food riots in 15 countries during a period of soaring prices in 2008 and the UN is predicting that food prices could rise by as much as 20 per cent in 2011.

Large Scale Investment in Farmland

There is now a consistent flow of news about rising food prices and the increased demand for farmland:

• A World Bank Report in September 2010 notes that “45m hectares worth of large scale farmland deals were announced” in 2009, compared with annual average expansion of agricultural land of less than 4m hectares before 2008. Jürgen Voegele, director of agriculture at the World Bank, says in the report that “given commodity price volatility, growing human and environmental pressures, and worries about food security”, interest in farmland is rising and “The demand for land has been enormous”.
• In December 2009, Dixon Boardman, chief executive of Optima, a New York fund-of-funds business, announced plans for a $100 million fund to invest in American farmland. In the same month, the London-based Agro-Ecological Investment Management announced that it is raising $60 million to buy land in New Zealand.
• In March 2010 a study by NCB Capital noted that Saudi Arabia and the United Arab Emirates together now hold 2.8m hectares of agricultural land, primarily in Sudan, Pakistan, Turkey and Indonesia to safeguard sources of wheat, rice, soya beans, corn and alfalfa.
• In July 2010 Agrifirma Brazil announced its intention to list on the Hong Kong stock exchange after receiving the backing of Hong Kong tycoons. The business plan is to increase its land back from 60,000 to 100,000 hectares of land in Brazil and sell the produce of the land to China
• In November 2010 Sojitz Corp., a Japanese trading company, announced that is will start producing soybeans and other crops in Argentina for export to Asia to take advantage of rising demand.
• In November 2010 Abu Dhabi announced that it is to make a bold foray into commodities with the establishment of a government-owned trading house aimed at securing food supplies for the import-dependent nation.
• In November 2010 Russia announced that it may need to start importing grain after a heat wave a drought had destroyed more then one third of its crop. Russia was the world’s third biggest wheat exporter in 2009
• Others already established in this market include Deutsche Bank (pig breeding and chicken farming in China) and Russia’s Renaissance Capital, with 100,000 hectares of farmland in the Ukraine.

Why Invest in Farmland?

The story of rising demand for food driving both yields and the value of land higher is compelling and has convinced many investors already. However, as well as having such a positive outlook, farmland also provides insurance against economic turbulence. Firstly, farmland is not correlated to the wider financial markets and outperforms when the markets do badly. Secondly, farmland retains both its yields and value in the face of high inflation and recessions because whatever happens in the economy, people always need food.

Given the current uncertainty around the markets and fears of inflation following governments’ attempts to stimulate the global economy farmland makes sense as a sensible alternative in a balanced portfolio.

A nice bonus to investing in farmland is the new by-products that are also set to increase farmland profitability. Many countries have now introduced compulsory use of bio-fuels, which will need farmland for production and carbon credits are also being linked to forest and farmland, providing alternative sources of funding.

Finally, investing in farmland is one investment you should feel good about. By providing the capital required to bring land into production, you are helping address the global food crisis and helping to provide jobs and opportunities in less developed countries.

How to invest

Previously investments into farmland were the preserve of either high net worth individuals or institutional investors who had the resources to source, purchase, manage and sell-on large parcels of land.  The biggest barrier preventing smaller investors from participating was the very high prices of land in developed countries.

However, this situation is changing. The biggest opportunities are now in South America, South East Asia and Sub-Saharan Africa, where the prices are 10 or 20 times cheaper than in the UK and the growing conditions are better. We are now starting to see high quality products with low entry levels that are suitable for smaller investors start to come to market. These have been structured with retail investors in mind and the best products provide good, low risk returns based on conservative assumptions with several layers of security built in for the investor.

What to look for

Good products should

• Give investors the opportunity to own a lease or title to the land. This gives them the security of a directly held, tangible asset.
• Be termed, or have a clearly defined exit.  Investors don’t want to have their money tied up in something they can’t sell.
• The very best products offer fixed annual payments as they can forecast their costs and crop yields.
• Quality products will have been approved by Self Invested Personal Pension (SIPP) providers.

Other considerations

As with any investment, it’s important to undertake thorough research and due diligence before investing in farmland. Ensure that the expected returns stack up and that there is plenty of “comfort” in the business model for the investor. Ensure that there is plenty of security for the investor in the event of a default and that all the assumptions and valuations make sense. Don’t be tempted by too good to be true returns – if it looks too good to be true, it probably is!

Conclusions

The rising global demand for food is a very powerful driver behind the upsurge in farmland prices and yields. This is not a problem that can be resolved quickly and it’s not a problem that can be ignored. The demand for food will support the price of farmland no matter what is happening in the wider economy.

It’s clear from the news that many countries are securing large tracts of land to guarantee their food supply and that many large institutions are investing in this area hoping to make strong, stable, low risk returns.

The great advantage is smaller retail investors can also participate in this boom through some of the new alternative products that are coming to the market. These products can provide strong returns and some protection against further market uncertainty.