We believe that declining cash receipts will lead to a reduction in inflation-adjusted farmland values 1 by 2018, representing the first significant correction since the mid-1980s. This correction, however, is likely to be more mild than that of the past, occurring in an agricultural and capital market landscape characterized by low interest rates, low leverage, and firm demand underpinned by the usage of feed grains and corn based ethanol. Far from the 42 percent decline in farmland values experienced during the mid-1980s, we expect today’s values to fall closer to 20 percent by 2018, before ultimately rebounding 6 percent by 2020. In this research, we forecast average farmland values in five major agricultural producing regions of the United States; we recognize that land values can vary significantly at the state and local level and may not be representative of the regional averages presented in this report. The Mid-1980s Vs. Today Interest rates reached record levels in the 1980s due to the adoption of restrictive monetary policy designed to combat inflation. High interest rates raised operating expenses and reduced farmland values. The current low interest rate environment has had the opposite effect, reducing interest expenses and supporting farmland values. Low interest rates support farmland values because of the negative relationship (correlation = -0.64) between the percentage change in national farmland values and inflation-adjusted interest rates from the year prior. Lower interest rates imply a lower discount rate, which, all things equal, increases the present value of an investment. Moody’s Analytics believes the 10-year interest rate will rise slowly, reaching a 4 percent nominal yield, or a 1.4 percent real yield, by 2020. 2 The low interest rate environment should support farmland values through 2020. Agricultural Finance Agricultural Market Special Report U.S. Farmland Values: Lower Commodity Prices Driving A Near-Term Correction, But Long-Term Fundamentals Are Positive By: Hugues Rinfret, CFA, FRM and Eric Rama
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We believe that declining cash receipts will lead to a reduction in inflation-adjusted farmland values1 by 2018, representing the first significant correction since the mid-1980s. This correction, however, is likely to be more mild than that of the past, occurring in an agricultural and capital market landscape characterized by low interest rates, low leverage, and firm demand underpinned by the usage of feed grains and corn based ethanol. Far from the 42 percent decline in farmland values experienced during the mid-1980s, we expect today’s values to fall closer to 20 percent by 2018, before ultimately rebounding 6 percent by 2020. In this research, we forecast average farmland values in five major agricultural producing regions of the United States; we recognize that land values can vary significantly at the state and local level and may not be representative of the regional averages presented in this report.
The Mid-1980s Vs. TodayInterest rates reached record levels in the 1980s due to the adoption of restrictive monetary policy designed to combat inflation. High interest rates raised operating expenses and reduced farmland values. The current low interest rate environment has had the opposite effect, reducing interest expenses and supporting farmland values. Low interest rates support farmland values because of the negative relationship (correlation = -0.64) between the percentage change in national farmland values and inflation-adjusted interest rates from the year prior. Lower interest rates imply a lower discount rate, which, all things equal, increases the present value of an investment. Moody’s Analytics believes the 10-year interest rate will rise slowly, reaching a 4 percent nominal yield, or a 1.4 percent real yield, by 2020.2 The low interest rate environment should support farmland values through 2020.
Agricultural Finance
Agricultural Market Special Report
U.S. Farmland Values: Lower Commodity Prices Driving A Near-Term Correction, But Long-Term Fundamentals Are PositiveBy: Hugues Rinfret, CFA, FRM and Eric Rama
> Agricultural Land Values | 2
Additionally, today’s agricultural sector benefits from mandated corn demand. The Renewable Fuel Standard (RFS), implemented in 2005 and modified in 2007, shifted the demand curve for corn, resulting in higher prices for agricultural commodities and strong support for farmland values. This mandated demand source and the support it provides did not exist during the previous correction, depriving farmers during that time period of a major stabilizing force present today. Farmland values and ethanol production from corn are strongly correlated (correlation = .91) and we believe the U.S. biofuel industry will continue to be a major driver of farmland values. In 2015, the U.S. ethanol industry produced 14.7 billion gallons of ethanol from corn, a 236 percent increase from ten years ago. We expect ethanol production from corn to rise over our forecast horizon, albeit at a slower pace than in previous years. Our outlook is for production to reach the 15 billion gallon mandate by 2018, and for production in subsequent years to remain near the mandate level.
Finally, the farm sector of the mid-1980s was more highly levered than it is today due to strong government incentives to finance investments with debt capital in the 1970s.3 The agricultural sector’s debt-to-asset ratio in recent years has been between 11 and 13 percent, well below the 1985 peak of 22 percent. High leverage levels in the 1980s compounded the severity of the crisis as farmers were unable to pledge additional collateral to renew their operating lines and were forced into bankruptcy. With leverage levels far lower today, a similar outcome seems unlikely.
Falling Cash Receipts Are Driving The Correction In Farmland ValuesOur farmland value forecast is based on the long-term relationship between three key indicators:
1. Regional per-acre cash receipts4
2. Corn-ethanol production3. Inflation-adjusted yield on the 10-year Treasury note
Moody’s Analytics expects real interest rates to remain low and we expect ethanol production from corn to remain near its 15 billion gallon mandate over our forecast horizon. Therefore, changes in regional cash receipts will be the primary drivers of changes in farmland values.
Regional cash receipts per acre are strongly correlated to current farmland values (correlation = .92). Specifically, changes in regional cash receipts can help explain how land values will change in the next two years. For reasons explained later in this research, we expect cash receipts to remain below the record levels seen between 2010 and 2014, pointing to a correction in farmland values. Cash receipts grew at an unprecedented annualized rate of $14 per-acre between 2005 and 2014 versus a long-term average of $3 per-acre.
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Source: USDA & MetLife
Figure 1 | Real Farmland Value Index (100=1950)
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We expect the largest declines in farmland values to be in the Upper Plains (26 percent), the Mountain region (21 percent) and the Midwest (22 percent). Farmland values in these regions experienced more growth between 2005 and 2015 and are being impacted by lower corn, soybean, and cattle returns. West and Southeast farmland values are expected to decline 18 and 6 percent, respectively, due to resilient specialty crops and poultry revenues, as well as the regional influence of institutional investors.
Regional OutlookMidwest & Upper Plains On average, we expect farmland values in the Midwest and Upper Plains to decline 22 and 26 percent, respectively, from peak to trough. In our view, corn and oilseed prices, which make up half of cash receipts in these regions, will bottom in the 2016/17 marketing year. We expect the low price environment to persist through 2017, as the 2016/17 crop is likely to be very large. This explains our outlook for flat per-acre cash receipts in 2016 and 2017. Cash receipts should increase in 2018 as the supply of grains and oilseeds diminishes. Although we anticipate improvement in 2018 for grain and oilseed cash receipts, the two year lag between cash receipts and farmland values in our model results in land values declining through 2018, as cash receipts are expected to bottom in 2016.
Farmland values in the Midwest and Upper Plains grew 90 and 150 percent, respectively, from 2005 to 2015. Cash receipts in the Midwest and Upper Plains increased 58 and 55 percent, respectively, between 2005 and 2015 due to corn ethanol demand under the RFS and the 2012 drought. Cash receipts in these regions however, have been on the decline because of rising global stockpiles of grains and oilseeds, as well as the strengthening of the U.S. dollar, which further compounded the impact of rising inventories by constraining U.S. exports. As a result, cash receipts in the Midwest and Upper Plains fell 12 and 10 percent, respectively, in 2015, and are forecast to fall another 12 percent in both regions in 2016.
MountainWe project Mountain farmland values to decline 21 percent from their peak in 2016 to their trough in 2018 due to declining cattle and dairy cash receipts, which account for 67 percent of total cash receipts in the region. Lower cattle prices should persist through 2020 due to oversupply, but we expect a modest increase in milk prices in 2017 due to a supply pullback across the EU, Oceania, and South America. Price improvements in the dairy market should help offset part of the decline in cattle revenues in 2017. As a result, cash receipts in the Mountain region should rebound in 2017 and land values should start to move higher in 2019.
We believe that cattle prices entered a cyclical low that will last through 2020. Cattle producers enjoyed unprecedented profitability in 2013, 2014, and the first half of 2015 due to a large drought-induced supply pullback which sent cattle and beef prices soaring. Higher cattle prices led to higher cash receipts in the Mountain region; however, weather conditions since 2014 have improved, allowing ranchers to respond to higher prices and expand their herds. The national beef cow herd has grown 5 percent since 2014 and is forecast to rise an additional 8.3 percent, reaching a peak of 31.5 million
Table 1 | Inflation Adjusted Farmland Value Growth And Peak-To-Trough Decline
Southeast West Midwest Mountain Upper Plains National*
2005-2015 Growth 6% 31% 89% 55% 148% 57%
MetLife Forecast -6% -18% -22% -21% -26% -20%
1980s -31% -32% -57% -35% -54% -42%* Excludes the Northeast Source: MetLife forecast using historical USDA data
ND
SD
NE
KS
MN
IA
MO
IL IN OH
MI WI
Grains & Oilseeds
ID
MT
WY
UTCO
NM OK
TX
Cattle & Dairy
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head. The lag between the peak in cattle numbers in 2018 and the bottom in cattle prices in 2020 is consistent with the typical cattle cycle where 9 months of gestation followed by 18 months of development creates a lag between cattle producers’ initial response to prices and when their response impacts prices.
In 2015, displaced imports from the EU, a result of the Russian import ban on food imports from western nations, began competing with dairy products from the U.S. and Oceania in international markets. This, coupled with a stronger U.S. dollar, caused U.S. dairy exports to decline, and consequently, a decline in milk prices. This stress in the dairy sector contributed to the 9 percent decline in cash receipts in 2015. As a result, cash receipts in 2016 are expected to decline another 11percent before recovering in 2017 due to a supply pullback.
West We expect Western farmland values to fall 18 percent from their peak in 2016 to their trough in 2018 due to declining fruit, tree nut, dairy, and cattle cash receipts. Fruits and nuts, vegetables, dairy, and beef cattle are the most important contributors to the region’s cash receipts, accounting for 41, 22, 16, and 12 percent of cash receipts, respectively.
Farmland values in the Western region will remain well above the national average, but will not recover to pre-2016 levels during the forecast horizon (2016-2020). Lower tree nut, dairy and cattle prices in 2016 have led us to forecast an additional 13 percent decline in cash receipts in 2016. The 2016/17 tree nut crop is expected to be of record size, limiting pricing upside in 2017. However, we expect aggressive marketing in 2017 to support both domestic and export sales due to limited foreign competition, benefiting California tree nuts. This will reduce inventories and support higher pricing in 2018. This outlook, combined with improving dairy market fundamentals, leads us to forecast cash receipts in the Western region to begin their recovery in 2018.
This decline in cash receipts comes on the heels of a period of substantial growth. Between 1950 and 2010, cash receipts increased an average of $8 per acre per year, whereas between 2010 and 2014, cash receipts grew an average of $48 per acre per year. This dramatic increase was due to growing export markets for tree nuts and other high-value permanent crops. By 2015, fruit and nut receipts declined 14 percent as record high tree nut prices led to global demand rationing.
Southeast RegionWe anticipate Southeastern farmland values to fall 6 percent from their peak in 2016 to their trough in 2018, and recover in 2019 and 2020. The decline in values is largely due to weakness in the poultry, cattle, and oilseeds sectors. Poultry and egg products account for 44 percent of cash receipts, followed by oilseeds at 13 percent and cattle at 11 percent. Of important note, the fall in Southeastern land values is mild relative to the other regions because farmland values in the Southeast experienced a correction that started during the Great Recession. Farmland values in many of the states that make up the Southeastern region are impacted by non-ag drivers due to the option landowners have to develop or convert their land for commercial uses. This is due to the proximity of farmland to urban areas in many of these states. The impact of the Great Recession had already limited the increase in farmland values in the Southeast, which likely explains the more prominent presence of institutional investors given the more attractive pricing. As a result, institutional farmland demand further supports our expectation for smaller declines in farmland values in the Southeast.
Cash receipts were impacted by an outbreak of the Highly Pathogenic Avian Influenza (HPAI) in 2015. The outbreak resulted in numerous import bans and bulging inventories of poultry products that could not be exported. The HPAI outbreak, coupled with the stress seen in the cattle and oilseed markets, led to a decline in cash receipts of 11 percent in 2015. Although HPAI has not been an issue in 2016, poultry exports have been slow to recover and prices have trended lower. The industry is also facing increased price competition due to larger inventories of red meat.
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OR
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AZ
Nuts & Dairy
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LA
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KY
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Poultry, Eggs & Oilseeds
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This has led us to forecast an additional decline in Southeastern cash receipts of 11 percent in 2016, followed by a recovery in the 2017-2020 time period. The 2017 recovery in cash receipts is explained by our expectation for recovering exports and the broiler industry’s ability to quickly expand and contract in support of prices.
Conclusion Although the acceleration in farmland value growth since the beginning of the 21st century resembled the growth of the 1970s, we do not believe the correction in farmland values will lead to a crisis like that of the 1980s. The crisis in the 1980s was a product of policies that incentivized the sector to take on excessive leverage and an abrupt change in monetary policy that caused interest rates to rise. This is not the case today— rather, farmland values have risen due to demand growth and persistently low interest rates, which we expect to remain low. As the world has increased output to meet demand, commodity prices have adjusted lower. We believe that this adjustment will result in the moderate repricing of farmland, better aligning farmland values with cash receipt expectations. Over the long run, the outlook for agricultural commodities and farmland values is positive due to growing worldwide demand for agricultural commodities. Continued global population and income growth will drive demand for food and fiber, and offset the drag from more significant increases in interest rates. Meanwhile, the biofuel industry will remain an important driver for land values, but its slower pace of growth suggests a moderating impact on future land values, leaving cash receipts to play the lead role in our land value forecast.
We would like to provide a special thanks to Roosevelt Bowman for his contributions to this report.
Endnotes1 This analysis excludes the Northeast. Unless otherwise noted, all price figures in this text are in constant, 2009 U.S. dollars2 Calculated using Moody’s Analytics baseline outlook for the yield on the 10 year Treasury Note and the year over year change in the
Consumer Price Index.3 During the 1970’s, the government heavily incentivized investments through tax credits, accelerated cost recovery systems, and
income tax deductions for interest expenses. The deductibility of interest expense was a significant incentive because under the progressive income tax structure, the deductibility benefit increased with increasing incomes. Incentives to invest in agriculture were especially strong—commodity price support and supply control programs artificially elevated commodity prices, while the government made loans at artificially low interest rates through the Farmers Home Administration. Although nominal interest rates were relatively high over this period, so was inflation, which made the real cost of debt extremely low in the 1970’s, even negative at some points. The result was aggressive investment in agriculture that was primarily financed by debt capital.
4 Per acre cash receipts and land values for each region are acreage-weighted
All information contained herein has been obtained by MetLife from sources believed by it to be reliable. The analysis, opinions, forecasts and predictions contained herein are believed by MetLife to be as accurate as the data and methodologies will permit. However, MetLife makes no representations or warranties, either expressed or implied, to any persons as to the completeness, accuracy and reliability of such information, forecast and/or predictions and expressly disclaims any liability with respect to any of the foregoing.
These views are those of MetLife, Inc. in connection with management of its own proprietary accounts. MLIA does not currently provide investment advice concerning agriculture at the present time.
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