August 23, 2018

Northwest FCS News

What is the last line of defense between a full-blown farm economic crisis and current times? The answer is simple:  The value of farm and ranch land has not taken a deep dive. With the agriculture economic cycle now in the sixth year of low margins, when will the next event put this critical variable on the brink? Will it take a trade or tariff war, a spike in interest rates, or a combination of both? These are critical areas to watch regarding farm and ranch values.

According to the latest USDA ERS figures, land represents $2.8 trillion of the $3.5 trillion U.S. farm balance sheet. With this segment being over 80 percent of the balance sheet, very close attention must be given to land-value dynamics.

An examination of farm real estate values from 1910 to 2017 reveals that farmland has been a good investment for resiliency. During this timeframe, farm and ranch land values increased 79 percent of the time. When examining the period of time from the beginning of World War II in 1941 to current day, the value of farm real estate appreciated or remained the same 88 percent of the time.

Interestingly, from 1910 to 1940, farm real estate appreciated 57 percent of the time. This, of course, means that farmland values were down 43 percent of the time during the same period. From 1920 to 1933, the value of farm real estate was flat or declined 13 consecutive years! Now, let’s compare that to the farm crisis years of the 1980s when land values declined nationally four years during that decade.

This quick analysis provides credence on why agricultural lenders favor equity in land in the lending process and when monitoring credit. While cash flow, profits and working capital are important, the last line of defense for farm finances when things go on the dark side is farmland.

Moving forward, the agriculture financial sector will be challenged by the ownership of land. Ownership will be held by the children and grandchildren of the baby boomers and investors who rent and lease farmland. This will result in more soft asset or soft collateral lending and less hard asset lending. Lenders will have to rely more heavily on machinery, equipment, inventory and other current assets as collateral rather than farmland. The last line of defense most likely will exhibit less resilience for the younger farmers and ranchers who are in the growth mode and depend on the soft assets. Agricultural underwriting could be very interesting in the future during an era of tightening margins and increased volatility.