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Watch these factors for land price direction

Farmland prices are in a tricky spot, with some farmers saying they're seeing more land showing up on the auction block, a sign that farm income optimism may be lagging as expectations for grain prices continue to slip.

Now, the land marketplace faces a trio of factors that could determine whether it surges or slides in the future, says longtime University of Tennessee farm policy expert Daryll Ray. Whether a bubble's out to burst or the land market's going to stay strong depends on interest rates, grain prices and crop insurance revenue.

The first of the factors -- interest rates -- will have a fairly clear-cut effect on the land market one way or another. And right now, they make up the variable that's least likely to change course anytime soon. "Interest rates are unlikely to go into the stratosphere in the near future and there will always be farmers looking to add acreage to their farms," Ray says.

Next, what about grain prices? As they pertain to the land market, any uptick in grain production would lead to lower prices, which in turn would have a fairly quick downward impact on land prices, Ray says. Though there's more of a chance this could push on prices compared to interest rates, the demand side could catch up and keep pace, too.

"The critical question marks are future crop prices and the ability of revenue insurance to help offset lower grain prices. What if the US produces 3.5 to 4 billion additional bushels of corn in each of the next couple years? This could easily happen if corn yields return to trend levels and farmers plant the corn acreage they brought into production the last couple of years," Ray says. "That would not be a problem if there is a corresponding jump in demand. But demand prospects look much different from what was experienced in the previous 5 years or so."

But, you can't look at grain prices and demand as a single factor considering the influence of both the ethanol and livestock sectors. "Clearly corn demand for ethanol will not repeat the explosive growth of earlier years," Ray says. "High feed prices and widespread drought have destroyed a significant portion of prospective livestock feed demand and US exports are likely to be affected as much by our export competitors supplying additional grain as importers demanding more grain."

But say that demand does slide, grain prices head south and crop insurance indemnity payment levels are lower than they were this year. That's a variable that could have a lot of influence on land prices down the road, namely if there's a short crop in 2013 and crop insurance doesn't pay out as much to farmers as it has this year.

"Revenue insurance provides farmers nearly a 'home free' card when crop revenue drops during—or just following—times when grain prices are abnormally high, but provide little to no meaningful protection during extended periods of severely depressed prices," Ray says, adding the indemnity payment picture is further muddied by uncertainty on how policy in the works could affect federal insurance programs.

"Two or three years of 14 to 15 billion bushel corn crops would most likely cause prices to be severely depressed. Since it is unlikely that revenue insurance could be the savior it has been this year and given the political climate for the next farm bill, it is very possible that net income in the years ahead will not support current land prices, let alone further increases in land prices," Ray adds. "Then again with continuing weather-based yield shortfalls and the resulting high crop prices."

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