investors + love = farmland

As an Iowa native and investor, it’s almost requisite that we follow farmland. About 60% of our farms are owner-operated and over 80% are individual or family organizations. We supply 7% of nation’s food supply with farms that make up over 90% of our land (second only to Nebraska); roughly one-third of the best US farmland is located here. While manufacturing is the largest sector of the Iowa economy, the majority of that is related to food processing and machinery -- estimates put the indirect role of agriculture here around 25% of our total economic output. Needless to say, farming in one way or another comprises a large portion of our economic activity and state wealth, not to mention the knock-on effects as incomes in that space move higher.

In the first quarter of the year, farmland was up 16% in the Midwest. At first glance, it appears these increases were justified, since cash rents also gained 16%. Because of this, the price-earnings ratio for farmland was unchanged – which is a good thing given it’s already in the 25-27 range depending on the state. In Iowa, farmland values gained 20% while cash rents grew slightly less at 16%.

Not surprisingly, these year-over-year increases were driven by higher agricultural prices – corn up 50%, soybeans 29%, while milk, hog, and cattle gained at least 20%. Input prices, meanwhile, were up less than 10%, leading to higher profit margins.

We would worry about rising farmland values if bank balance sheets looked stretched, but the average loan-to-deposit ratio was at its lowest level in nearly 15 years (a period over which farmland values are up substantially). In other words, banks have more money to lend; some three-quarters of regional banks have actually lent less than they would like to. The fact that loan demand has actually come down while prices rise bodes well should farm values reverse in sudden fashion. Leverage can be particularly painful on the downside.

So who’s buying? Bankers report that it’s increasingly farmers, rather than investors. It also seems that the number and acreage of farms sold were larger than a year ago. This jibes with our comment in the last post about farmland that farmers know (1) dirt and (2) CDs, or bank certificates of deposit. Given the profile of the incremental farmland buyer, we’re watching CD rates as a leading indicator for farmland values. Should banks begin to pay substantially higher rates on CDs, watch for land values to decline – absent a major change in commodity prices, of course.

Napier comments from Edinburgh

Russell Napier is a brilliant guy and we love his book Anatomy of the Bear. While he is not always right - no strategist ever is - he has made some great calls with historical precedent to back it up. His recent comments from the 2011 CFA Annual Conference are worth a few minutes of time.

two years and investment professionals' mindset

Just returned from the CFA Annual Conference in Edinburgh, Scotland this past week and wanted to get a few thoughts down to maybe crystallize my takeaways. If you’d like a play-by-play, the conference was live-tweeted under @CFAIowa and also the #CFA2011 hashtag. I have found myself returning to these feeds and am likely to reference them several more times as I pen this.

The last conference we attended was 2009, and the world was just six months past a blow-up that brought down Lehman, Bear, and (almost) lots of others. The world had undergone a major shift, a ‘phase transition’. That year, it was as if the attendees were in a dark room, grasping around for the light switch. The various speakers proffered various suggestions on the location of the switch, and attendees were still forming their opinions of what exactly had happened and what was likely to transpire in the future. All we knew at the time was that the market had gained about 50% off the bottom in just two months but it was far from clear whether it was sustainable.

In retrospect, as usual, some forecasters were more right than others and the events since make reflecting on it much easier -- had the world collapsed we’d see things much differently today. Instead, equity markets are ahead by double their March 2009 lows and the gains we’ve seen have proven sustainable thus far. In many ways, the light switch has been located.

From the vantage point of 2011, investors seem to have a good grasp of the major (known, large) risks to the world economy. The risks are that are well known today were more or less on the fringe at this time in 2009 – Eurozone economic risks, sovereign credit risks, debt, deficits, over-leveraged consumers, debt-fueled spending, the threat of rising inflation and interest rates, the rise of emerging markets, commodity supply and demand dynamics. Each was more or less reflected to varying degrees in the speeches and seminars this go round. There were a few ‘fringe’ views at the 2011 conference but nothing that was extremely aberrant. (You might have a guy who only likes gold, for example, but even this is almost mainstream today.) Whereas in 2009 the presenters spanned the “31-flavors” gamut, most came in vanilla circa 2011.

I will soon write another post on key takeaways – what might be gleaned from a contrarian viewpoint when 'everybody knows' the risks and issues facing investments. I think there are many broader implications for the investment profession as a whole. It seems clear that the powerful ‘institutional imperative’ will impede future performance even though managers, well aware of the potential headwinds facing market valuations and interest rates, believe they should not be 100% invested right now. Just because the risks are apparent doesn't mean everyone is acting to protect against them. Career risk, or The Risk of Poor Short-Term Performance - a major issue to investment industry credibility - sometimes leads managers do crazy things when viewed from a long-term perspective. Often, 'what's right' is not 'what's right now.'

Until next time!