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Navigating the ever-changing value of American farms

Jim Knuth with Farm Credit Services of America spoke recently at the 2022 Land Expo about the changing landscape of land value in America and the way farmers who use the land can get the most out of it. He hit on three topics — land value, interest rates, and grain production. 

Land value

For the first time since 2014, there has been movement in land value. This year marks the biggest one-year trend in benchmark history, says Knuth. He says that it is common sense to look at the land value numbers and expect them to level off soon.

“Do I think that trend is going to continue through 2022?” says Knuth. “I don’t know, but not likely. Some of the tailwinds are not as strong going forward. Why did this all happen? The stars all aligned. We had interest rates driven clear to the floor by the pandemic and had significantly higher grain commodity prices with all the influx of government money.”

Knuth says we also have the answer to what would happen if a significant amount of land hit the market — it would get absorbed by willing buyers, because they are not hard to find. Buyers have collateral and capital and the ability to absorb the supply on the market. But Knuth says there is a reason this economic trend won’t last.

“The real question, as we look at the market today, is how will it continue to reconcile the long-term nature of the land asset with some of the short term,” says Knuth. “How long will these margins last? How long will this all last? I think that’s the key going forward.” 

Interest rates

2021 was a dynamic year for interest rates, says Knuth. The three factors that drive interest rates and monetary policy are inflation, unemployment, and consumer spending. Agriculture doesn’t have much of a hand in monetary policy, despite the impact monetary policy has on agriculture. 

What can the Federal Reserve do? It can increase short-term or variable interest rates. Knuth predicts that will happen in what he calls modest 25-point increments in March and repeat three or four times this year. 

“That means we’re going to be at 4%, maybe 4.25%,” says Knuth. “Then it’s going to taper its bond buying activity. In other words, it’s going to take demand or liquidity out of the market. It’s already doing that. That’s going to cause long-term rates typically to rise. We’ve already seen that in our 10-year treasury benchmark.”

However, Knuth says, rising interest rates doesn’t mean high interest rates, because the industry is coming from a year of all-time low interest rates. 

Another option the Federal Reserve has is to keep interest rates the same, but to extend the term from 20 years to 30 years. 

“Right away you see that and go ‘Wow, that savings is double what the interest rate was,’” says Knuth. “That’s the point a lot of people don’t understand. Typically, it’s the term or the amortization of your debt that has the single biggest impact on the payment, the cash flow relief, and a restructure.”

Knuth says the best choice is to both increase short-term interest rates and extend the term to create a third option.

“Do you know what the price of corn will be in two years or three or five?” Knuth asks. “No, neither do I. The whole point is to take as long of an amortization as you can get. Take all the flexibility you can get because when times get tough, you might need it. But when times are good, understand what you’ve done and pay that debt ahead. It’s a little bit like having your cake and eating it too.”

Grain production in agriculture

According to Knuth, corn and soybeans aren’t supply driven products like some of their agricultural counterparts, but demand driven. The United States used to produce over 2.2 billion bushels of corn, but now produces less than 1.5 billion. Knuth says the demand boom for corn came from China, and now we are seeing less demand from them and thus less production of corn. 

Coming off a historic demand spike, Knuth says producers should be thinking about their planting and selling dynamics for 2022 and 2023.

“2022 is shaping up to be another profitable year,” says Knuth. “Our prices are good, but our one caution is to get ready for the margin squeeze. I’d get ready for the margin squeeze because everything’s more costly. Fertilizer is the obvious one, but it’s also fuel, seed, cash rent, and machinery.”

Risk management and marketing decisions are going to be very important this year, and Knuth says to expect volatility in the markets. However, he said volatility doesn’t always mean bad things; it can bring opportunities if you are ready for them.

Food for thought

Knuth says there are several important lessons learned from the last time we saw this kind of economic cycle that we need to bring into 2022.

“This party’s going to end too,” says Knuth. “I think the whole point is what knowledge, what insights, and what realities can we take from the last economic upcycle that we can apply to today?”

The first lesson is cost structure matters. During upcycles, it can seem like farmers can afford every new piece of machinery and still break even. Being thoughtful about capital expenditures and expansion, thinking ‘What will this do to your costs?’ can help to set up a good cost structure. 

“Remember, the goal of every grain producer is to have a high-revenue, low-cost operation,” says Knuth.”

Working capital is balance sheet risk management. Working capital is the first wall of defense in risk absorption, says Knuth. If you have liquid assets, you have flexibility and the ability to margin your own borrowings. With any business, it’s difficult to operate without working capital. 

When looking at financial decisions, take all your assets into account. 

“We’ve seen a lot of farmers think about their operation in pieces,” says Knuth. “That thinking is actually wrong. It can really lead to some poor decision making.”

Knuth says it is important to look at farmland by acre, or machinery equipment costs by acre, and to look holistically at your operation.

At the same time, trying to understand your financial situation can be difficult. Knuth recommends also looking at your operation after capital expenditures. Thinking about what the operation will look like after the decision is made — how it will impact your cost structure or working capital, how much financing it requires — can be a huge asset to making the decision of whether it’s worth it.

Knuth’s last lesson is that agriculture will continue to have a dividing line. The difference he sees isn’t about how you fertilize, the crops you grow, or the color of the machinery you use.

“Producers increasing their business and finances are being rewarded. They’re continuing to separate themselves,” says Knuth. “What they do is fairly simple. They spend as much time in their office as they do their shop and their fields, and they spend as much time running their business as they do running the tractor and the combine.”

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