I have written many times about how farmland has been a good investment for at least the last 10 years or so.  Most of this data has been gathered from sources directly related to farming, however, I have started to notice a trend about reporting on farmland as an good investment in mainstream sources such as Business Week. 

This trend continues with a recent article in the Wall Street Journal about buying farmland for income.  The article indicates that by buying farmland, an investor should receive a current 3-5% yield plus up to another 5% in annual price appreciation over the term of the investment.  This comes from R. Dennis Moon with US Trust, a unit of Bank of America.

One of the challenges right now is finding quality land.  The supply is smaller than usual since farmers and their heirs are keeping the land they otherwise might have sold, in order to book the rental income.  The number of qualify farmland for sale appears to be down about 30-40% according to Loyd Brown of Hertz Farm Management, Inc. of Nevada, Iowa.  Even medium quality land is down by this amount.

Now that these articles are now starting to appear in main-stream sources, my contrarian sense is that farmland may be starting to peak as an investment for investors.  This may end up being good for farmers if the speculative pricing gets eliminated from land values.  We can wait and see how it turns out.

I try to skim a few of the major Mid-West farm cities and the Omaha World-Herald recently had an article on how food demand is driving farmland prices higher.  There was a regional conference in Omaha sponsored by the Federal Reserve of Kansas City.  The meeting brought forth various good nuggets of information about the rising demand for food and how it is affecting farmland prices.

In 2005, the world produced about 7 billion tons of food which is about on average a ton of food per person on the earth.  By 2030, which is only 20 years away, rising population will require another 3-4 billion tons of food to be produced.

This strong increase in demand encourages long-term investors to realize that good farmland is already in production and only marginal farmland will come into production over the next 20 years or good farmland will be taking away by suburban growth.  According to the speakers, this demand will cause farmland prices to continue to increase.

Farmers National Co. of Omaha reported that recent sales of good quality farmland reached $8,000 an acre in Illinois, $7,500 in Iowa and $7,000 in Nebraska.  Demand is high for ground that can grow corn and beans and prices are up since there is so little ground is for sale.

Even grassland values are drawing higher prices.  For example, grassland sold neer O’Neill, Neb. recently sold for $580 per acre, substantially higher than the recent sales range of between $385 and $450 per acre.

As more people in the world move from rural to urban areas, their demand for animal products will increase.  One of the drawbacks of this move is that a pound of beef requires 1,800 gallons of water to grow while a pound of wheat only requires 180 gallons.  We will have to use water more efficiently in the future than we are now to keep up with this demand.

While many factors point toward health agricultural growth, there are serious challenges, including an imbalance in labor, environmental concerns, unwise public policy decisions in some countries and higher food prices that strain developing countries budgets.

One of our readers sent me an e-mail yesterday regarding an article posted by www.farmgate.com regarding the return on farmland investment from 1970 top 2009.   This post was based upon the research done by Iowa State University.

Over the years farmland investment have yielded a very competitive rate of return compared to other investments.  However, about half of the return comes from appreciation in land, which can be unpredictable and it does not provide any cash to cover expenses or mortgage payments.

This research broke down the years between four distinctly different periods:

• The farm boom period from 1970 to 1981,
• The farm crisis from 1982 to 1987
• The recovery period from 1988 to 2003
• The Ethanol Boom from 2004 to 2009

During the farm boom period, an average farmer enjoyed 7.3% average cash rent return on their land and their land appreciated in value from an average of $392 per acre to $1,941 per acre or an average return of about 14.3%.  Therefore the total average return for this period was about 21.6%.

During the farm crisis, the average cash rent was actually at the highest average of about 8%, however, this was due to the decrease in land prices.  During this period, land values decreased from $1,941 per acre to about $786 per acre or an average negative return of (14%), which about wiped out the returns during the farm boom.  Overall average returns during this period was a negative (6%).

During the recovery period, average cash rents were about 7.25% and land prices increased from about $786 to $2,010 or an average increase of about 6% or a total annual return of 13.25%.

Therefore, the overall return during the 40 year period wsa about 6% from appreciation and 7% from cash rents for an overall annual return of 13%.

During the Ethanol Boom, the average cash rents was the lowest at about 4.4%, but the increase in price from $2,010 to $3,850 or 11.4% equals an average annual return of about 15.8%.

The best cash rent return was 9.6% in 1987 at the peak of the farm crisis and worst return was 2008 at 3.8% during the Ethanol Boom.  The best appreciation year was 1977 at 36.8% and the worst was 1985 at a negative 28%.

The Federal Reserve Bank of Kansas City issued their quarterly report on agricultural credit conditions for the first quarter of 2010.  They indicated farmland values rose due to strong demand and the rebound in livestock prices.  Both farmer and non-farm demand appears to be very good.  Looking ahead, they expect farmland values to hold steady.

However, most district bankers reported that farm income fell slightly in the first quarter, however, they expect higher levels in the second quarter with the year being steady.

Farmland values for the quarter rose about 2% with Nebraska having the highest gains of about 6%, however, Oklahoma and the mountain states were lower for the quarter.  This was the strongest gain in over a year primarily due to the livestock rebound.  Interest rates edged down slightly, averaging 6.6 percent.

In reviewing the long-term chart shown in the report, there have only been 3 quarters that have been negative since 1990.  Two quarters were in late 1990 when the Internet bubble was at its highest and one quarter last year.   Owning farmland has been a very good investment over the last 20 years.  We all hope the trend continues for the next 20 years.

Creighton University produces a monthly rural main street economic report based upon  a survey of bankers in an 11 state area which comprises most of the corn belt.  This survey gives a good picture of where the local farm economy is headed.

In the latest report, the highlights are as follows:

• The farmland-price index moved above growth neutral for a third straight month to 59.5 from 58.2 in March.  After beginning a downward slide in the spring 2008, farm and ranch prices have once again begun to grow.  One banker reported that a 143-acre farm in Nebraska brought $8,025 per acre.
• The farm equipment sales index soared from March 41.4 to 57.2 in April.  Bankers are reporting significant improvements in farm and ranch land prices and equipment sales.  They seem to expect these trends to continue in the months ahead.
• One banker indicated the increases in cattle prices is having a large positive impact in the local economy.
• For a second straight month, all bank indicators were healthy.
• However, hiring in the rural area has yet to bounce above growth neutral.

Another interesting note was that about 82% of the bankers surveyed were in support of extending the 45-cent-per-gallon blender credit for ethanol production.  Only 8% were against it.

The most recent AgLetter from the Federal Reserve Bank of Chicago indicated that good farm land in Iowa decreased about 7 percent from the third quarter of 2008.  The average decrease for the five state region was 4%.  The good news that the price of good farm land increased by 2% over the second quarter of 2009.

The forecast for the fourth quarter prices were an additional decrease in values, but not at a great rate.  Pockets of strength seem to exist in areas where farmers have built up financial capital over the last few good years.  These farmers are either expanding their farm operation or trying to reduce their exposure to hikes in cash rents.

On the financial side, loan repayment rates for non-real-estate loans fell to their lowest ranking since 2006.  The index had peaked in 2008 at 150 and fell to 89 in the third quarter which is about a 40% decrease in loan repayments.  Both real estate and operating loan rates were at very favorable being in the low 6% range for the quarter.

Bankers also did not see conditions improving into the fourth quarter and beyond.

The University of Illinois had a recent October article on how land prices for Illinois had held steady from January 1, 2008 to January 1, 2009.  Prices for both years were slightly more than $4,500 per acre.  This contrasts with prior year increases.

Between 2003 and 2008, the average price per acre grew by $2,120 or about an 87% increase.  According to a surver of professional farm managers and rural appraisers in the state, prices for all of 2009 are still expected to remain steady primarily due to the expectations of cash land rents not dropping this year or next year.

These stable cash rents indicate an average of about $170 per acre in cash rents.  Just in the last three years, this average has gone up by about $38 per acre or a 29% increase.  These high cash rents may be leading to a net return to a farmer of almost zero based on a fully costed operation.  These returns compare to over a $50 per acre return in 2007 and 2008, which were considerable above average.

These low returns suggest that cash rents should drop, however, there is usually a year or two delay in this drop.  If the net return remains low for 2010, then we should expect that cash rents for 2011 and resulting land prices may drop and this drop may be dramatic.

For 2009, a taxpayer can leave an estate of $3,500,000 tax free to his/her heirs.  They can also leave an unlimited amount to their spouse.  With proper planning, this means that most farm families will be able to shelter $7,000,000 or more in farmland values from the estate tax. 

A benefit that the IRS provides to estates that have a large amount of real estate wealth such as most farmers would have is to allow the estate tax to be paid over a fourteen (14) year period.  For the amount of the estate that is represented by land values, the estate can elect to pay interest only for the first four years and then spread the principal payments over the next ten years.  The first $1,000,000 of tax related to these values is allowed an interest rate of 2% with the remainder at a rate that is still fairly low.

This election does have some drawbacks since the property needs to remain in the family and in production as a farm.  But for most farm families, this is normally the goal.

Please check this election with your estate tax advisor since it may allow you to keep the farm in the family.

After two years of steep increases, it appears that farmland values are either flattening out or starting to drop, according to the Federal Reserve Bank of Kansas City.

For example, Nebraska farmland values fell in the third quarter compared to a the third quarter of 2008 by about 5%.  The regional change was slightly lower at about a 2% negative change compared to last year.

In the third quarter, more District bankers reported weaker farm incomes primarily due to sagging protein demand and a summer decline in prices.  With shrinking margins, livestock producers have been cutting supplies by culling herds and consolidating feedlots.  In response to a special survey, bankers estimated that livestock returns would be about 10% lower than a year ago.

With lower incomes, farm credit conditions deteriorated in the third quarter.  More bankers reported lower loan repayment rates and a rise in loan renewals and extensions.  They expect this trend to continue to at least the end of the year.  However, bankers also indicated rising farm loan demand and they have plenty of money to lend to creditworthy borrowers.

Since farmland valuations spiked in the third quarter of 2008, year-over-year comparisons will show flat increases or moderate decreases.  This trend most likely will continue as long as farm income is lower than the previous year.

In the third quarter, the farm index fell to below 50, which is the lowest since 2003.  Closely tracking this index was the capital spending index, which also reached a survey low.  As you can see from the chart, these indexes peaked out in late 2007 early 2008 at levels which are about three times higher than the current levels.

 These trends need to be watched and make sure you have a good relationship with your banker and it may make sense to have at least another bank in waiting.

The USDA issued a report on Land Values and Cash Rents for January 1, 2008 to January, 1, 2009.  This is a highly detailed report that summarizes the changes in land values and cash rents by region for calendar year 2008.

Some of the highlights are as follows:

•  Average cropland values decreased by 3.9% or $110 per acre to $2,650 per acre.
• In the Cornbelt region, the decrease was 4.0% or $160 per acre to $3,870 per acre.
• In the Northern Plains and Delta regions, cropland values actually increased by 1.6% and .6%, respectively.
• Pasture values decreased by $20 per acre overall, however the Mountain region had a 16% decline in 2008.
• Although cropland values dropped in 2008, they have increased from $1,460 in 2000 to about $2,650 in 2009 or an overall 92% increase.
• In the Cornbelt, Illinois and Iowa still have average cropland values of more than $4,000 per acre.

Some highlights related to cash rents are:

• Annual cash rents rose by $4.50 or 5.3% for the year.
• Pasture rents remained unchanged.
• Cropland cash rents averaged $90 per acre, compared with $85.50 the previous year.
• The Cornbelt region had an average increase of $7 per acre to $146.
• Iowa had the highest Cornbelt average at $180 while Illinois was right behind with $170 per acre.
• California had the highest overall cash rent at $360 per acre and Washington was right behind with $245 per acre.  These were the only two states over $200 per acre.

There is a wealth of information in this report and it would be worth reading it to see how your farm operation compares to your state and region.