Yes, Farmland Prices are a Bubble

The following eye-opening chart is from the American Enterprise Institute for Public Policy Research’s article, “A Bubble to Remember — And Anticipate?” by Alex J. Pollock:

Farmland returned almost 8% a year on average between 2000 and 2011 according to the U.S. Department of Agriculture.

The Federal Reserve Bank of Kansas City came out with its quarterly “Agricultural Credit Conditions” survey report last week. Farm profits are affected by required input costs and the comments related to input costs are concerning out of this district report. Tenth District bankers issued an earnings warning, “Farm incomes fell sharply during the quarter as escalating feed and fuel prices pushed production costs higher. … Rising input costs and lower income led to stronger loan demand for all sectors of the District’s agricultural economy.” One Eastern Oklahoma banker put it this way, “Gross income looks good for agriculture but the margins are continually being squeezed by the increasing costs of the inputs.”

Tenth district bankers reported that the severe drought had little effect on the demand for farmland. “Nonirrigated cropland prices rose nearly 25 percent above year-ago levels in the third quarter, and irrigated land values remained more than 20 percent higher than 2011 levels. In addition, ranchland values appreciated an average of 14 percent during the past year.”

The Goss Institute issues monthly reports on economic conditions in the Midwest. The following quote by Ernie Goss is from its most recent (October) report:

“Farmland prices and cash rents are soaring at what I believe are unsustainable paces. For example, last month there was an auction of cash rent contracts in southeast Nebraska. Contracts went for a record $550 per acre per year for non-irrigated land. Right now we are seeing cash rents and farmland priced for perfection. Land prices and cash rents will be heavily dependent on 2013 drought conditions, agriculture commodity prices and interest rates. Any of these three factors could be a significant issue or problem for the Rural Mainstreet economy in the months and years ahead.”

The Federal Reserve Bank of Chicago is reporting that “For the third quarter of 2012, the year-over-year gain in District agricultural land values was 13 percent—the smallest increase since 2010. Iowa’s farmland values continued to lead the District, with a year-over-year increase of 18 percent.”

Farmland values in the St. Louis region averaged $6,003 per acre in the third quarter, according to a survey by the Federal Reserve Bank of St. Louis. This District’s bankers reported that subsidized crop insurance, which is required on all farmland loans, was contributing to higher profits this season than last, but that livestock producers were hurting from high feed costs due to the drought and ethanol policy.

Nebraska UNL Extension Educator Allan Vyhnalek said, “Greed is a powerful negative emotion that’s causing some of our problems here.” He was addressing Nebraska farmers about problems establishing fair rents in this environment.

Land prices are outpacing rental rates which should raise some alarm bells. The WSJ recently quoted Greg Page, Iowa farmland owner and Cargill’s CEO. Page estimates the multiple of farmland value to rents in his region has climbed from about 10 times 12 years ago to 22 times or more today. Yet, the farmland debt-to-equity ratios are much lower today, at 11.4%, than in the mid-1980s when they were 30%. The low interest rates of recent years have been a major contributing factor for today’s prices.

Another factor to consider is the upcoming drastic change in estate and capital gains taxes. Legal advisers are saying “sell” your farmland before year-end, since capital gains taxes will rise from 15 percent to 23.8 percent and deductions on estate taxes will drop from $5 million to $1 million.

Many of the tiresome reasons that are repeatedly given to defend the ongoing investor interest in farmland tend to ignore some basics, most of which are mentioned in the above few paragraphs. Today’s policies are what are making farming and owning farmland profitable, not the growing populations of the world.


Photo credit: Flickr CC via tyleruk2000

5 thoughts on “Yes, Farmland Prices are a Bubble

  1. JT

    I live in an area with some of the best cornfields on earth, and prices are asinine – we’re talking $7,000+ an acre. Farmland isn’t really all that overvalued so long as ethanol subsidies exist. If that cash cow gets turned off, though, the market is toast.

    Without substantial change in ethanol policies, farmland prices have room to drop a little bit but not a whole lot. Word on the street is that hedge funds are some of the most aggressive buyers in these parts, so that’s a concern. Otherwise, land has fundamental value equal to the cash flow from sold crops. Crop prices will stay high from ridiculous ethanol policies, and so will farmland. A reversion in interest rate policy and biofuels would be a complete disaster, however. I wouldn’t put my money in it.

    Reply
  2. Packard

    I am about 90% certain that Iowa farmland is now immersed in an enormous speculation bubble. More frighteningly, however, I fear there is a 10% chance that $20K/acre for 80+ CSR land is now correctly priced and is only reflecting the real value of the American dollar by the rest of the world.

    Hyperinflation, here we come.

    Reply
  3. Farms

    90% of Iowa sales are to farmers, net farm income is higher than ever and debt/asset levels are at all time lows. Is it speculation or is it improved fundamentals?

    House prices weren’t going up in 2005 because people made more money, it was because interest rates and credit standards lowered.

    Commercial RE was flooded with capital for investment leading to compressed return profiles for 90% of buyers (who were investors).

    The story is inverse in both regards as it relates to farmland.

    Reply
    1. Harold Smith

      This was true at the start of the recent boom (circa 2006) but the latest data is showing that farmers are more in debt than in the late 1970s in real and absolute terms. Moreover, crop prices have never been more subsidized by government programs and policies. No commercial bank in their right mind would loan farmers money, but the government subsidized Farm Credit will if you have a pulse. I am very concerned about a Farm Credit Services meltdown. If interest rates rise just 200-300 bps, imagine how land prices will get hammered. Think about the increased cost on operating loans alone given today’s higher costs of putting out crop.

      I’m not seeing how paying 50+ times gross cash rent for land (even higher multiples if you use after-tax rent) makes any sense. Would you buy a share of Procter & Gamble at a P/E of 50+?! (and it has ROIC of > 15% in perpetuity) This entire train is being driven by corn ethanol subsidies, super low interest rates, crop insurance, and other farmer handouts. Government policy has created a moral hazard and when it turns it will be very ugly for those who have overextended and no sympathy here whatsoever.

      Reply
      1. Farms

        Just referencing the 70′s shows your hand and demonstrates your agenda. The comparison alone isn’t valid then unless you think we’ll have an event similar to the Russian grain embargo. That aside, I would have interest in seeing the latest data you mention. Outside of a survey of Kansas farmers that reported debt utilization higher than the 70′s, I’ve yet to seen anything to close to what you mention. Lending policies on farmland are much more restrictive even today than alternative real estate assets.

        Interest rates WILL NOT go up until inflation is a real threat in the US. The fed will not curb job growth until there has been a significant run which will push them to raise rates. Guess what will happen to farmland in the meantime as we do experience mild to strong inflation?

        The P/E ratio comment is startling. The highest per acre farm sale on record in Iowa was at $21K/acre. You could rent that ground out and have a multiple of less than 50x. Same quality ground all over Iowa at more normalized market pricing is trading at 10 -12K/acre. That would be half that number. Your assumption is that if (hypothetically)Proctor & Gamble is trading at 50x that the entire stock market is priced at 50x?

        What ethanol subsidy? It’s a mandate, not a subsidy.

        Reply

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