The Definitive Guide To Farmland Investing: A Trillion-Dollar Asset Class

I’m pleased to share with you a comprehensive guide to farmland investing by FarmTogether, a leading farmland investing platform and Financial Samurai sponsor. Not only is this article full of information, it will evolve with updated information as the landscape changes.

Farmland might be the world’s most promising untapped asset class, and the newest opportunity in real estate investing. Estimated at a value of over $2.5 trillion in the US alone (USDA), returns to farmland in the US have averaged over 10% for the last 47 years (Forbes). 

In fact, from 1992-2016, farmland assets averaged an especially impressive 12% average return, outperforming real estate (NCREIF) at 8.7% and the Russell Stocks Index 3000 at 8.8%. Farmland also has a history of preserving capital in times of economic downturns, displaying an impressive resilience over the past two decades (NCREIF).

Farmland investing is resilient to the economic cycle
Source: Nuveen

Still, it might come as a surprise that until recently, there haven’t been many options for non-institutional investors looking to get involved, aside from making the large investment and commitment needed to buy an entire farm outright. 

Thankfully, this is changing. New technology-driven platforms ours, which was reviewed on the site earlier this year, are offering fractional investment solutions that make it possible for a wider range of investors to participate.

This innovative technology is being introduced to the market at a time of huge changes in farmland ownership – as well as in farming itself – and hints at an unprecedented opportunity for a wider investor audience to share in these promising returns.

Why Invest In Farmland Now?

1) Aging Population 

For starters, the current generation of farmland owners in the US is aging – USDA data indicate 40% of US farmland is owned by people over the age of 65 (USDA).

According to the American Farmland Trust, roughly 370 million acres of farmland will change ownership within the next 20 years. Even if initial transfers of land are to the current landowner’s next of kin, much of that land will end up on the open market as younger generations increasingly opt to sell and pursue life away from agriculture.

2) Decreased Barriers To Entry

Meanwhile, barriers to entry to farmland ownership as a non-farmer are decreasing quickly. Across the US, renting farmland as a farm operator is already a common practice, and roughly 80% of rented farmland is already owned by “non-operator landlords” (USDA), or people who own farmland but are not actively involved in agriculture.

In fact, a large portion of those non-operator landlords are already-retired farmers, who have chosen to retain ownership of their land and rent it to other operators as a source of retirement income. 

These trends are likely to continue, with generational transitions within farming in the US catalyzing the entry of more and more non-farmers into this asset class. As current farmers continue to retire, and either sell their land or ultimately leave it to their next of kin, more and more farmland will ultimately appear on the open market.

3) New Buyers

Meanwhile, it’s less and less likely that the new buyer will be another farmer – the increasing overall value of farmland during the last several decades has meant that the pool of farmers who can afford to buy, rather than rent new land, is shrinking (NPR).

For those who inherit land, if they don’t wish to continue being involved in farming, their smartest option is often to sell and capitalize on the last several decades’ worth of appreciation.

U.S. farm real estate value, nominal and real inflation adjusted 1969 - 2019

4) Positive Demographic Shifts

All of this is happening at a point in the history of civilization defined by two significant forces that will forever shape farmland assets:

1) Demand for food and other agricultural products is at an all-time high, and expected to continue increasing as the world’s population approaches 10 billion by 2050

2) high-quality farmland, meanwhile, is an increasingly scarce resource. More land is lost from agriculture to development every year – nearly 31 million acres were converted in the US from 1992-2012 alone (AgWeek).

Farmland investing opportunity as population growth increases and arable land per person decreases

Further, climate change will further exacerbate this scarcity of good farmland. Climate change will place a heightened demand on water and soil resources. There may also be changes to weather that make crop production riskier and confined to smaller suitable regions.

Future farmland crop yield

Given the above trends, investing now in high-quality farmland promises to be a great source of passive income.

Let’s explore this opportunity in greater depth, how it compares to traditional real estate investing, and ways to get involved in building passive income through farmland investing.

How Do Farmland Investments Generate Returns?

You may already be familiar with how to invest in other types of real estate – what to consider when comparing properties, evaluating risk, and choosing between active and passive income options.

Farmland is comparable to commercial real estate in terms of how it generates returns, and in terms of the types of factors to evaluate when sizing up any particular opportunity. It does, however, have specific characteristics that can determine the degree of success of your investment.

Two Ways To Generate Farmland Returns

As with real estate, there are two main mechanisms by which equity investments in farmland generate income: 1) appreciation of the value of the land and 2) income derived from the operation of the farm.

Finding value from appreciation of farmland relies on buying a property at a competitive price, making material improvements to the land, and selling it or a profit after a period of time. In farmland’s case, an appropriate hold period is usually between 5 and 10 years. 

Though conventional real estate does see investors sometimes employ a shorter-term strategy that is commonly referred to as “flipping” – buying and quickly re-selling a property – to capitalize on it being undervalued at its original price – there is much less use of this strategy in farmland investing. 

Most US farmland has been in operation for generations, and therefore prices are often at or close to fair market value to begin with. A longer hold period allows the investor more time to make meaningful improvements to the land and actually see them translate to the productivity, versatility and resiliency of the farm.

Leasing Farmland To An Operator For Income

Meanwhile, non-operator farmland landlords also earn income from the operation of the farm by leasing the farmland they own to an operator. This converts the operating income from the farm, for the landowner, to a straight-forward rental income stream. The rental income stream can be paid in cash or in a share of the farm’s production value.

Understanding the broader economic trends surrounding the crops grown, even if you aren’t involved in production directly, is crucial as a farmland investor. The same goes for understanding your relationship with the farm operator

As is common with commercial real estate, most farmland owners utilize net leases wherein the operator is responsible for expenses related to maintenance, taxes, and insurance. Additionally, some farmland leases utilize “variable rent” structures in which rent is a function of seasonal farm income, which is impacted by harvest yields and crop prices.

Given the connection of farmland rents to farm income, it is in neither party’s interest for the farm to struggle remaining profitable. In fact, cash returns to farmland – the ability of the land to consistently produce a high-value harvest – is one of the key drivers of appreciation in farmland value. 

This is especially true in the long-term. Farmland that has had a trend of consistent high cash returns without compromising its inherent endowment of soil and water resources will appreciate more. This is similar to a well-cared for building. It will likely appreciate more than one that has received little to no maintenance.

Farmland Location Matters

Finally, location and quality, as ever, are keys to successful farmland investing. Still, you are weighing a different set of factors than with other real estate.

Both your crop quality and land quality have to be high. Further, the climate of the region in which your property is located has to be favorable – and expected to remain that way – for growing the crops your operator plans to harvest.

Things To Know Before About Farmland Before Investing

The most important differences to grasp within farmland investing are between the different types of farmland assets. Farmland can be broken down into three basic categories: Annual or “row” cropland, permanent cropland, and livestock pastures.

Specifically, understanding the differences between row and permanent cropland is critical, as they have distinct risk and return profiles that can be seen as complementary to one another.  Let’s dive into these two categories.

Annual or “Row” Crops

Annual crops, as their name suggests, have a short life cycle and are cultivated, harvested and replanted yearly. Annual crops include corn, rice, wheat, and soybeans. This category of farmland is often referred to as “row” cropland because of the way these crops are planted: in densely seeded rows usually laid and maintained by a tractor. 

For the operator and landowner alike, growing row crops is less risky in the event of a downturn in crop prices or an environmental shock like a drought or a flood. This is because they can choose to plant different crops in successive years or rotate crops among different fields.

For investors, row crop investments are also among the least risky, as these types of properties are typically structured as cash rent leases. Rent is collected and paid to the investor in March, well before planting or harvest. 

In managing a farm business, planting different row crops can be a means of reacting to changes in the physical or economic environment of the farm and can protect the value of the land in the medium- to long-term.

Permanent Crops

Permanent crops, on the other hand, typically demonstrate higher potential returns – as well as higher risk – than row crops. Orchards and vineyards are two good examples of permanent cropland.

Permanent cropland is Land that is planted in crops with a multi-year life cycle that can last as long as several decades. After a few slow years at the start of production, there will be a steeper ramp-up in cash returns to farmland once the plants mature. 

Permanent cropland total returns

Usually, permanent crops are more lucrative than most row crops; almonds or citrus fruits, for example, usually fetch a higher price than row crops like wheat or corn.

Quarter annual cropland returns
Source: ncreif.org

That said, the operator does not have the flexibility of easily changing the crops planted on the land after each year. Permanent crops are therefore considered a riskier investment.

To demonstrate why permanent crops are considered riskier, here is an example. In the event of an extended drought, a peach grower would be exposed to much greater risk of depleting water resources than a row-crop grower who can switch to more drought-tolerant varieties comparatively quickly.

Farmland Capital Appreciation Potential

Regarding farmland capital appreciation, permanent crops usually harbor greater potential than row crops. Capital appreciation of permanent crops is helped by the deployment of new farming technology.

It is in any farmer’s interest to make production as efficient and cost-effective as possible. However, implementing new technology or changing production processes are both costly as well. The decision to incur these costs needs to be justified.  

Permanent crop growers need to offset an initial investment in the crop’s maturation. Making technological improvements like precision irrigation that will impact their bottom-line in the long run through elevated yields and savings on resource use can help. 

Technical innovations in row crop operations, on the other hand, often mimic the shorter-term flexibility of the cropping choices the farmer makes. High-yielding, drought- and disease-resistant varieties can be planted in any given year. However, if crops are rotated, the value of the technology used to breed those varieties does not become part of the farmland’s value itself.

Overall, if you want to build your own farmland portfolio, finding a balance between these two types of cropland is important. One carries a higher yield along with more risk, while the other carries less risk but typically lower returns.

How Does Farmland Fit Into My Overall Portfolio?

Diversifying your portfolio by adding investments in farmland has proven to both reduce volatility and even increase overall returns. Nuveen, a thought leader in alternative investing, has published numerous reports on the benefits of including farmland in an investment portfolio over the years.

How Does Farmland Fit Into My Overall Portfolio?
asset return versus volatility including farmland investing

Farmland Can Help Decrease Volatility

Studies reveal that adding farmland to a portfolio consisting of only stocks and bonds both increases the portfolio’s average annual returns and decreases its volatility based on average return data over the last 30 years.

Farmland investing can help reduce volatility
Sources: Farmland Values: NCREIF Farmland Index

One of the easiest metrics by which to see farmland’s benefit to any portfolio is the Sharpe Ratio. It compares the overall return of an asset to its volatility, measured as the standard deviation in the asset’s returns over time.

Impressively, Farmland’s Sharpe Ratio not only outperforms conventional assets like stocks and bonds, but also outpaces commercial real estate and timberland.

Farmland investing returns versus other asset classes
Sources: NCEIF Farmland Index, NCREIF Property Index, S&P 500

Farmland Can Be An Inflation Hedge

Further, like other real assets, farmland can be an effective inflation hedge and is also uncorrelated with conventional assets like stocks and bonds. This has made farmland an excellent source of recession-resistant returns, as well as an attractive asset for our current moment.

In a time of historic decline and volatility in stocks, plummeting GDP and record unemployment, farmland has still managed to show a lot of upside – as well as overwhelming abundance.

In fact, at roughly $2.5 trillion in the US (Source: USDA) alone, farmland as an asset class is roughly as vast as multifamily real estate.

Farmland investing as a reliable store of value

What Are The Best Ways To Invest In Farmland?

Depending on how you invest, there are a range of active and passive options to earn returns from farmland investments.

The traditional option for the average retail investor to gain exposure to farmland assets has been to simply buy into farmland REITs or other exchange-traded funds. Gladstone Land Corporation (LAND) and Farmland Partners Inc. (FPI) are two examples.

These types of investments offer diversification options across farmland types, and demonstrate returns that track consistently with averages across the entire farmland asset class. 

However, since REITs must derive at least 90 percent of their income through rental or lease income, the deal structure and yield options for REIT managers are more limited.

On the other hand, if you’re interested in a higher yielding and more curated option, where you can select specific properties and build a farmland portfolio of your own, there are online platforms like FarmTogether.

A new addition to the world of farmland investing, platforms like this save you the trouble of performing extensive due diligence on your own, and represent a compromise between the liquidity of buying shares of a REIT and the attention to detail required when directly owning the land.

Adding Farmland To Your Portfolio 

For the best mix of returns, flexibility, and selection of different properties, investing through an online fractional ownership platform like ours is a good option for investors new to farmland assets who want to go deeper than buying shares of a REIT.

The FarmTogether Advantage

The vanguard of farmland investing platforms, FarmTogether offers nothing but the highest quality farmland investment opportunities. Their team employs an academic approach to investing, having developed a disciplined investment philosophy by investing for some of the largest and most innovative institutional funds in the world, such as Prudential and Ontario Teachers’ Pension Plan.

With an unwavering commitment to their disciplined and conservative investment philosophy, the FarmTogether team incorporates risk-management strategies at every stage of the investment process – from research to due diligence to follow-up  –  to ensure they only offer properties consistent with their investment criteria.

With a plethora of available properties ranging in size, location, crops, and a multitude of other criteria, their due diligence process narrows down the field of possibilities to those demonstrating appealing risk-adjusted returns.

As an investor, the FarmTogether team ensures a fully transparent and low risk experience. You have access to all due diligence documents, project financials, proposed deal structures, investment documents including operating agreement, private placement memorandum, and subscription agreement, as well as detailed information on the operating partner.

The FarmTogether team also confirms water rights and quality, environmental compliance, and title, along with testing soil and crop production.

Invest in Farmland In Minutes

The FarmTogether team also confirms water rights and quality, environmental compliance, and title, along with testing soil and crop production.

When you invest with FarmTogether, you’re buying shares of an LLC. You become a partial owner of a farm of your choice, thereafter becoming entitled to proportionate returns. FarmTogether provides regular updates on your investments, including refreshed key performance indicators on productivity, photos and videos.

In addition to visiting our site, you can also schedule a call with the FarmTogether Investment Team to learn more.

Ready to invest? Be the first to hear about FarmTogether’s next live offering by 1) signing-up on the FarmTogether platform and 2) emailing investments@farmtogether.com to reserve your spot.

 


Originally posted at https://www.financialsamurai.com/definitive-guide-to-farmland-investing/

→ Save time. Save paperwork. Save dollars. Esurance ←