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Wall Street 'flight to safety' may push on farmland values

Wall Street investors have spent the last few weeks being tossed around in one of the most volatile periods in the equity trade's history.

This has trickled into the grain trade, and now some expect it to continue seeping into other parts of the agricultural value equation. That leaves a lot of uncertainty when it comes to come costs, including farmland.

But, like the swings on Wall Street lately, that uncertainty can have a bullish or bearish tone to it. Some say macroeconomic woes are enough to drive more value into markets like farmland. But, on the farm level, investors seeking to capitalize on more stable markets could just fire up an already volatile market.

"Given current price expectations and price uncertainty, it is impossible to set rents at near historical levels without having the farmer facing substantially more risk. Alternatively, setting cash rents so farmers have the same risk level will cause landlords to have extremely low returns," says University of Illinois Extension ag economist Gary Schnitkey. "At the same time, this risk-return dilemma exists, there is good chance that prices will rise, causing higher levels of profitability to exist on Illinois grain farms in 2009 than is projected using October 8 th CBOT settlement prices."

Uncertain grain price expectations are just part of the equation. As the equity markets churn wildly, investors may be looking for a "flight to safety," and that could land more investment money in the farm land market, says Rex Schrader of Schrader Auction Company in Columbia City, Indiana.

"Volatility in the worldwide financial markets is creating a flight to safety, and agricultural land serves as a good haven even in normal times because of its stability. But right now, corn and soybeans are in strong demand not only for food products, but also for ethanol and biodiesel," Schrader says. "While corn and soybeans -- like all commodities -- will fluctuate in price short term, the long-term fundamentals clearly point to strong demand and strong prices. The new sources of demand are here to stay."

If you're a landowner, that's good news. If you're a farmer looking for the opportunity to gain farmland, that's bad news. "Because of the strong value of tillable land and the turmoil in the equity and credit markets, we're seeing some things we've never seen before. Our auctions are attracting more and more investors who are seeing the stability of a safe, hard asset like farmland. In addition, we’re seeing a sense of urgency among buyers," says Schrader.

"In this environment of extreme price uncertainty, many farmers and landowners are in the midst of making farmland rental decisions for 2009. Price uncertainty has greatly complicated decision-making as it is difficult to accurately estimate farmland returns for 2009. This in turn leads to difficulties in setting appropriate cash rent levels," Schnitkey says. Given these conditions, he recommends:

  • If at all possible, use variable cash rent or share rent arrangements. These arrangements vary returns to the operator and landlord based on yields, prices and input costs (share rent arrangement), thereby automatically adjusting rents and returns to changing economic conditions.
  • If a fixed cash rent arrangement must be used, delay setting the cash rent until March 2009. Currently, it is difficult to form reasonable expectations of corn and soybean prices for use in budgeting 2009 returns. As a result, it is difficult to agree on a cash rent level. By March some price uncertainty may have dissipated. Moreover, base prices used for revenue crop insurance policies will be set, providing farmers with opportunities to purchase revenue crop insurances. If the cash rent must be set now, realize that the fundamentals of prices and costs suggest lower cash rent bids then what would have been established just a few months ago and what would have been justified by 2007 and 2008 returns.
  • Consider re-negotiating 2009 cash rent levels if rent levels have already been set at "high" levels. Cash rent bids based on corn above $5.00 per bushel and soybeans above $11 per bushel may no longer be appropriate. If prices remain low into December, it may be time to reduce "high" cash rents. Laying the groundwork for these renegotiations now seems prudent. This recommendation is particularly relevant for tracts whose cash rent levels were set commensurate with return levels in 2007 and 2008. If cash rent levels were low relative to returns in 2007 and 2008, 2009 may be viewed as a catch-up year and re-negotiation may not be needed in 2009.

"Currently, there is a great deal of price uncertainty. This is causing difficulties is setting cash rents. We suggest using share rent or variable cash rent arrangements," Schnitkey says. "If a fixed cash rent arrangement must be used, we suggest waiting in setting the cash rent level. Cash rent agreements set at relatively high levels may need to be re-negotiated."

Volatility will likely continue in the farmland market. But, will the idea of farmland being a "safe haven" from macroeconomic struggles also continue?

"In the market for agricultural land, especially in the Midwest, we're virtually seeing the opposite of what is occurring nationwide in other types of real estate. Not only is farmland holding its own -- it's really in a bull market," Schrader says. "Nobody knows what the future holds, but investors are looking for assets that hold their value, provide income and offer the opportunity for appreciation. And right now, agricultural land is one of the few investments that are consistently meeting those criteria."

Wall Street investors have spent the last few weeks being tossed around in one of the most volatile periods in the equity trade's history.

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