This won't hurt farmland prices...

Jim Rogers, the over-exposed commodities uber-salesman, announced he is a farmland investor.

Commodities are still the best play for the long term, legendary investor Jim Rogers told CNBC, confessing that he has been buying farmland himself.

"We're still going to eat, probably; we're still going to wear clothes, probably. Farmers cannot get loans for fertilizers right now. So the supplies of everything are going to continue to be under pressure," Rogers said.

He is the director of two funds which are buying greenfield land in Brazil and existing farms in Canada and starting to farm it. The funds are clearing the land, fertilizing it, irrigating it and hiring farmers and, Rogers said, some day will probably sell the land but that is a remote prospect.

"If I'm right, agriculture is going to be one of the greatest industries in the next 20 years, 30 years." [More]

I find the guy hard to take, but he is omnipresent on money shows and the go-to quotester for anything to do with commodities. People certainly hear him, and a percentage follow his advice.

Whatever.

OK - here they come...

Just in time for a mess of Boomers to exit the business, well-heeled buyers for all levels of farm production are at hand. We've successfully poured ethanol on the fires of consolidation, and I believe new entities at the production level will soon emerge. Until now there has been only modest interest in owning production and origination capacity as an investment, but as farmers fret whether the good times can last, investors with longer vision are voting with their checkbooks.

But a few big private investors are starting to make bolder and longer-term bets that the world’s need for food will greatly increase — by buying farmland, fertilizer, grain elevators and shipping equipment.

One has bought several ethanol plants, Canadian farmland and enough storage space in the Midwest to hold millions of bushels of grain.

Another is buying more than five dozen grain elevators, nearly that many fertilizer distribution outlets and a fleet of barges and ships.

And three institutional investors, including the giant BlackRock fund group in New York, are separately planning to invest hundreds of millions of dollars in agriculture, chiefly farmland, from sub-Saharan Africa to the English countryside.

“It’s going on big time,” said Brad Cole, president of Cole Partners Asset Management in Chicago, which runs a fund of hedge funds focused on natural resources. “There is considerable interest in what we call ‘owning structure’ — like United States farmland, Argentine farmland, English farmland — wherever the profit picture is improving.” [More]

While most farmland is in strong hands, it is also subject to continuous turnover. The presence of top-bidding buyers in any local market is already one reason we try so hard to hear about land for sale before anyone else. Any tenant who hasn't asked his landowners to be told first is taking a whacking chance, IMHO.

The increased capital needs, significantly higher profit levels, and escalating risk in production agriculture will encourage the same forms of business as other sectors. We may look back a generation from now and date the disappearance of the traditional family farm from the 2006 October price explosion.

Things begin, things end. And to expect one business model to succeed in every business climate is unrealistic. Family farms are a relatively recent idea when you look at our 10,000 year history. While many see them not just as a good economic answer, but as the most moral form of agriculture, there is no reason to believe other forms could not keep or even lift such standards. People and their actions determine such qualities, not business plans.

China changes everything...

In an obvious good business move, China is encouraging its newly wealthy investors to buy farmland in other countries to secure a food supply.

China is losing its ability to be self-sufficient in food as its rising wealth triggers a shift away from diet staples such as rice towards meat, which requires large amounts of imported feed.

China has about 40 per cent of the world’s farmers but just 9 per cent of the world’s arable land. Some Chinese scholars argue that domestic agricultural companies must expand overseas if China is to guarantee its food security and reduce its exposure to global market fluctuations.

“China must ‘go out’ because our land resources are limited,” said Jiang Wenlai, of the China Agricultural Science Institute. “It will be a win-win solution that will benefit both parties by making the maximum use of the advantages of both sides.”

In the first quarter of this year, food prices in China rose 25 per cent from a year earlier, the highest level of farm inflation since the early 1990s, said UBS.

China is still a net exporter of agricultural commodities but is increasingly reliant on soybean imports and is about to become a net buyer of corn.

It imported up to 60 per cent of the soybean it consumed last year and the crop would be a focus of policy support for companies acquiring land overseas, along with bananas, vegetables and edible oil crops, said an official familiar with the ministry’s proposal. The ministry is already talking to Brazil about the possible acquisition of land for soybean, according to this official. [More, with free registration]

Like the the climate change, energy, health care, and other complicated issues facing nations today, it seems we in the US are constantly being surprised by the forward thinking and risk-taking of other nations. Maybe it's because we are losing our pioneering spirit, and becoming more conservative.

But it could simply be market forces doing what they do best, helping all participants to maximize their return. Regardless, it hard not to admire in some way the staggering progress China is making year by year. And to consider soberly what it means to our part of the world.

Digits are destiny...

A great debate is going on in the economic and investor community about the status of the American housing market. Has it bottomed? Or is there even more depressing news to come?

Regardless of your particular prognostication, consider the graph below from an article on the geography of the house price mess.



Note that the long term rent-to-price level seems to wander around 5%. It struck me because I've always used 5% as the quick-and-dirty factor between cash rents and land prices: $300 rents are to be expected for $6000 dirt.

Or vice-versa.

What if 5% is some kind of embedded value in our brain, and we revert to it as nominally fair over the long-long term for any kind of capitalization problem? I think that could be the case for a simple reason: it's easy to calculate in your head. Double the rent and add a zero. Or halve the price and lose a zero.

In the heat of deciding what's fair, rules of thumb can take over if time is of the essence.

We could be simply trapped in a decimal system and wedded to 5% because we have ten fingers. If we were base-8 for example, we'd settle for...don't rush me now...carry the two...and , ummm...something else.

Look, it's just a theory.

Why 1031 money has dried up...


[More]

So why aren't you buying farmland?

Are we sprawled out?...

A USFR viewer recently wrote to object to high farmland prices and how urban development is likely causing them. You can see my answer during the "Mailbag" segment at the end of the show, but I stumbled on this really interesting piece that puts another perspective in suburban expansion. The quiet return to the city from the suburbs - or at least the emergence of a vibrant new group of urban residents - has changed both the picture and the reality of the suburb. In the process the business model of the suburb underwent a drastic revision.

Until recently DuPage County had been one of the big winners during the forty-year decline and imminent collapse of Cook County. Major corporations fled Chicago’s failing downtown and moved to DuPage’s open spaces and tax-friendly towns. Working class homeowners on the west and southwest sides of the city sold their bungalows and bought ranch houses, Cape Cods, and new town homes in Wheaton and Naperville and Downers Grove. Families troubled by the city’s public schools happily sent their children into shining new facilities and well-equipped classrooms. County government prided itself on its lean budgets and effective service-delivery.

By the date of the meeting, however, the developers who had helped double DuPage’s population in just 30 years had run out of land. The income generated by their construction efforts had dwindled to a trickle. Education and public safety costs continued to climb. Scores of specialized local districts and commissions—water, sanitary, and others —absorbed hundreds of millions of dollars that never made it into the general operating budget of the county and were subject to little, if any, scrutiny or oversight. And residential real estate taxes—the backbone of the county’s budget due to the long-standing agreement to attract and retain business by keeping commercial taxes low—soared.

...

DuPage is not alone, of course. In Nassau and Suffolk Counties in New York, in Montgomery and Baltimore Counties in Maryland, in Bergen and Essex and Middlesex Counties in New Jersey, in almost every mature suburb in the northeast and Midwest and mid south, families face these same conditions. A Roman Catholic pastor I met in Nassau County described it as suburbia’s midlife crisis. It may be part of America’s midlife crisis as well.

No longer young, no longer trendy, no longer the place to be, no longer without apparent limitations or constraints, these places, like people, have developed ways of avoiding reality. [More]

These social and demographic forces have been at work for some time, but now they are joined by economic punches like energy costs and real estate price declines. Given the delay factor inherent in real estate taxes, the forecasts for those tax revenues must be horrific for the next few years.

I have long been less than hysterical about urban development. After Richard Bruegmann published "Sprawl: A Compact History", I found some justification for my position. [Read my review here]

What this iconoclastic little book demonstrates is that sprawl is not the anomalous result of American zoning laws, or mortgage interest tax deduction, or cheap gas, or subsidized highway construction, or cultural antipathy toward cities. Nor is it an aberration. Bruegmann shows that asking whether sprawl is "good" or "bad" is the wrong question. Sprawl is and always has been inherent to urbanization. It is driven less by the regulations of legislators, the actions of developers, and the theories of city planners, than by the decisions of millions of individuals—Adam Smith's "invisible hand." [More]

It would seem those invisible hands are moving in other directions now. Maybe mall is beginning to pall. (Sorry - couldn't resist) Regardless, the fact that more people have the ability to choose can only be a good thing.

And if we can just keep our real estate finance system from imploding, even more citizens will have the chance to determine what our cities will look like with their decisions.

We have met the bubble...

And he is us*. Welcome, agriculture, to center stage. We are the next, best candidate for Bubble Status.

There are a number of plausible candidates for the next bubble, but only a few meet all the criteria. Health care must expand to meet the needs of the aging baby boomers, but there is as yet no enabling government legislation to make way for a health-care bubble; the same holds true of the pharmaceutical industry, which could hyperinflate only if the Food and Drug Administration was gutted of its power. A second technology boom—under the rubric “Web 2.0”—is based on improvements to existing technology rather than any new discovery. The capital-intensive biotechnology industry will not inflate, as it requires too much specialized intelligence.

There is one industry that fits the bill: alternative energy, the development of more energy-efficient products, along with viable alternatives to oil, including wind, solar, and geothermal power, along with the use of nuclear energy to produce sustainable oil substitutes, such as liquefied hydrogen from water. Indeed, the next bubble is already being branded. Wired magazine, returning to its roots in boosterism, put ethanol on the cover of its October 2007 issue, advising its readers to forget oil; NBC had a “Green Week” in November 2007, with themed shows beating away at an ecological message and Al Gore making a guest appearance on the sitcom 30 Rock. Improbably, Gore threatens to become the poster boy for the new new new economy: he has joined the legendary venture-capital firm Kleiner Perkins Caufield & Byers, which assisted at the births of Amazon.com and Google, to oversee the “climate change solutions group,” thus providing a massive dose of Nobel Prize–winning credibility that will be most useful when its first alternative-energy investments are taken public before a credulous mob. Other ventures—Lazard Capital Markets, Generation Investment Management, Nth Power, EnerTech Capital, and Battery Ventures—are funding an array of startups working on improvements to solar cells, to biofuels production, to batteries, to “energy management” software, and so on. [More]

I think we have all been kinda suspecting this, but to give some parameters, the author above goes on to speculate that the alternative energy bubble could create around $20T in speculative value.

Given that farmland value has grown from about $1.2T to over $2T in just four years, and comparing to the overshoot suggested above, I calculate land could go way farther than today's paltry prices before this is over.

In fact, I'm banking on it.

*Famous philosopher quote

How free is free?...

A loyal reader writes:

In your blog, the premise is that you would like to take on/sign long term
contracts with Cargill for a number of reasons.

I for one have "problems" with the notion that contracting is good for
agriculture in the long run. In particular it isn't good when relative
market power differs greatly between players. And, I happen think that Ebay
for grain will happen. If it works to sell every thing from hairballs to
who knows what... why not grain?

Since I don't consider you stupid or shallow thinking, I have to ask
myself.... "what am I missing, what does John Phipps see that I don't"?

So, I thought a bit about The Birth of Plenty. Since I don't plan on
re-reading that thing and am running on memory, the parallel I draw on the
question is in the area of efficient markets.

Is contracting more or less efficient than "open" or bid derived markets?

Is contracting more like the "commons" or worse, the share you receive of
the goody is determined by "special" deals?

I guess I would argue that contracting a grain or livestock flow to an
end-user is not more efficient over time and that the risk of a biased
contract lowering the bar on the farmer share over time is very real. Thus,
it runs counter to one of the four tenets proposed in the book. That is,
what is the bigger issue, the cost of price discovery on a more frequent
(daily?) basis vs. the "honestly" that (daily?) discovery brings to the
system?

What say you?

[The post referred to is here.]

First, let's establish what I mean by a "deeper relationship" - (I know, pretty crummy language for farmers, but the best I could come up with). I avoided the use of the word "contracting" because it has its own baggage and various forms of contracts are familiar to producers.

As I explained in my Top Producer article, "More Risk, Please", grain producers - like livestock producers before them - are struggling to balance risk with freedom. Specifically the risks of tenure (length of land rental) along with the risks of operation versus the freedom to choose as many options as possible.

I'm ready to make some trade-offs. For two reasons.

First, expanding choices actually increase anxiety and undermine our brains efforts to make us feel satisfied. There is an illusion of maximizing outcomes by "keeping all options open" when all it really does is tie up our mental processes comparing odds and outcomes. In short, I'll agree to some restraints in order to gain some other good.

Barry Schwartz is the guru who explains this best:

...we assume that more choice means better options and greater satisfaction. But beware of excessive choice: choice overload can make you question the decisions you make before you even make them, it can set you up for unrealistically high expectations, and it can make you blame yourself for any and all failures. In the long run, this can lead to decision-making paralysis. And in a culture that tells us that there is no excuse for falling short of perfection when your options are limitless, too much choice can lead to clinical depression.

(from Barry's page at Swarthmore)

Second, one answer to volatility is anchors. To make better judgments in markets like well, today, I have found a few absolutes powerfully steadying: owning as much land as possible, long history with my lender, and the reassurance my fertilizer, machinery, fuel, etc. vendors value my business and in turn don't have much worry about me auctioning them off every deal.

What might this relationship look like? Just dreaming here, but what about a "retainer" for my acres? Just like Cargill nails down 3 years of grain from the bin they help me build, how about a similar pricing cap on 1/3 of my acres each year in exchange for $X per acre? Up to the restraint of the pricing cap we would establish prices the same as always - although it can be fairly argued Cargill could lower bids as more grain is captured. But unlike the grain bin/health insurance/college fund ideas, this one works for any producer.

In fact, I could see allegiances growing to a formal affiliation: I would become a Cargill Grower, with some attendant benefits. This idea horrifies many in agriculture and flies in the face of our view of markets as an adversarial exercise, but I see no reason why it cannot be an option for those who wish to do so.

The concept is only slightly different from closed sugar beet coops, only without government subsidies involved. If farmers can band together (horizontally), why can't they forge alliances up and down the value chain as well?

This same effort seems to match what I cited in the TP article as a push by farmers to get some predictability in their rented acreage. Judging from remarks I have heard about land flowing between operators this winter, this issue will command immense attention in the months ahead. I see a direct parallel between farmers trying to ensure landowner commitment and Cargill seeking grain producer commitment.

As for market efficiency, we might look to the protracted battle over cattle contracts. I could see some loss of price discovery on any particular crop, but any contract system collapses rapidly if participants do not feel benefits are allocated fairly. Just like multiple year rental contracts, price discovery is slowed, but it surely more transparent and responsive than share rents which farmers prefer.

And I question the success of eBay Star Wars figures as easily adaptable to grain markets. I haven't noticed buyers clamoring for for such a "naked" trading system, so I wonder if they won't work to avoid participating, especially in tight supply years like this. We've already seen one response to our efforts to foist all the risk on our customers: the end of forward pricing.

All that said, I've had more than a few ideas that didn't amount to much. But I don't think waiting to see what will happen is the answer for either our land problem or our marketing problem. And as my life and words testify, I favor errors of commitment to errors of inaction.

[Thanks, Tom]

This sounds uncomfortably familiar...

IF we are in a farmland "bubble" (and I remain skeptical), this is one way it comes to be:

Suppose houses are really of low investment value, but the first person to make a decision reaches the wrong conclusion (which happens, as we have assumed, 40 percent of the time). The first person, A, pays a high price for a home, thus signaling to others that houses are a good investment.

The second person, B, has no problem if his own data seem to confirm the information provided by A’s willingness to pay a high price. But B faces a quandary if his own information seems to contradict A’s judgment. In that case, B would conclude that he has no worthwhile information, and so he must make an arbitrary decision — say, by flipping a coin to decide whether to buy a house.

The result is that even if houses are of low investment value, we may now have two people who make purchasing decisions that reveal their conclusion that houses are a good investment.

As others make purchases at rising prices, more and more people will conclude that these buyers’ information about the market outweighs their own.

Mr. Bikhchandani and his co-authors worked out this rational herding story carefully, and their results show that the probability of the cascade leading to an incorrect assumption is 37 percent. In other words, more than one-third of the time, rational individuals, each given information that is 60 percent accurate, will reach the wrong collective conclusion.

Thus, we should expect to see cascades driving our thinking from time to time, even when everyone is absolutely rational and calculating. [More]

This is a persuasive argument, and would seem to work in our relatively tiny corner of the wealth marketplace, but our much smaller size and peculiarities like massive government intervention in our industry would give pause for thought at least.

I base my lack of hysteria on the realization that someone will be farming this land 10 years from now. And 20.

The key to survival is to be at least as good as the average operator. The key to success is not to worry about possible catastrophes ahead, but to be able to compete at the highest levels.

[via Mankiw]

'Tis an ill wind*...

The stock market today is focusing on the growing wave of foreclosures in the housing sector. While many have been commenting on this for some time, I think "whistling through the graveyard" mindset made us look elsewhere just to prevent all-out panic.

Unfortunately, this phenomenon is getting hard to ignore.

U.S. mortgage foreclosures rose to an all-time high at the end of 2007 as borrowers with adjustable-rate loans walked away from properties before their payments rose, the Mortgage Bankers Association said today.

``We're seeing people give up even before they get to the reset because they couldn't afford the home in the first place,'' said Jay Brinkmann, vice president of research and economics for the Washington-based trade group.

New foreclosures jumped to 0.83 percent in the fourth quarter, the highest ever, from 0.54 percent a year earlier, the group said in a report today. About 40 percent of all foreclosures are homeowners with prime or subprime loans who couldn't make their payments before the reset, Brinkmann estimated in an interview.

Another 23 percent are borrowers who received some form of loan modification, typically a freezing or a reduction of their rate, and then default, he said.

``It comes down to an overstretching of buyers to get into homes they couldn't afford and an overextending of credit by lenders who were more willing to take risk,'' Brinkmann said.

The share of all home loans with payments more than 30 days late, including prime and fixed-rate loans, rose to a seasonally adjusted 5.82 percent, the highest since 1985, the bankers' group said in today's report. [More]

It is important to remember, however, there is another side to foreclosures that out of deference to those losing their homes seldom gets much play in the media.

If you're facing foreclosure, Treasury Secretary Henry Paulson wants to help. "If someone is willing to make a call to reach out," says Paulson, "there's a chance we can save their homes." But Paulson can't save these homes because the homes are not endangered in the first place. They stand to change hands, not to vanish.

None of these foreclosed houses is going to disappear. After a foreclosure, one family moves out, and another moves in. We see the sad faces of the people moving out, but we don't as often see the happy faces of the new homeowners moving in. Nevertheless, those happy faces are out there, and we should not discount them. [More of a short thoughtful essay]

We in agriculture have seen this before (at least us geezers) in the '80's. The second piece of ground I bought was from a foreclosure by an insurance company. I got it for $1600 when it had been selling for around $2500 just a few years previously. While even $1600 looked too high, it was something we could just afford with effort.

I do not discount the pain of losing a home, but at the same time without corrections or recessions, housing would have continued to outstrip incomes to crowd even more people out of the home ownership market. That has been painful for many as well. It may be about to turn.

"Significant price declines in some local markets have sharply and quickly improved local affordability conditions, and are inducing buyers to return to the marketplace," Yun said. NAR's housing affordability index is forecast to rise 14 percentage points to 127.0 in 2008. [More]

The tricky part is stopping the slide and beginning some period of relative price stability before speculative money re-enters the mortgage business. given the severity of the CDO washout, we could be buying a considerable breather before people want to play that game again.

Now farmland is another story altogether.

Land values roared 22% to 30% across South Dakota in 2007, according to the most recent quarterly survey of agricultural bankers in the state. That eye-blinking surge leads the pack of breath-taking gains reported across the upper Midwest for 2007 by the Federal Reserve Banks of Minneapolis and Chicago. The Fed banks survey ag bankers each quarter, asking them a host of questions concerning ag loans, credit conditions and land values. The most recent survey covers the period ending December 31, 2007. [More]

I'd say the "farmland affordability index" (which doesn't exit that I know of) is still viable, but heading downward.


* ’Tis an ill wind that blows nobody any good. Someone profits by every loss; someone is benefited by every misfortune.

“Except wind stands as never it stood,
It is an ill-wind turns none to good.”
Tusser: Five Hundred Points of Good Husbandry, xiii.

[Always wondered where that came from.]

New, improved ways to lose lots of money...

While the subprime/CDO fiasco has simmered to a slightly slower train wreck, another even more abstruse financial storm may be brewing: credit default swaps (CDS). [Late note: this didn't help much either.]

I know - say what? I've been working on this post for a coupla weeks, and still barely comprehend the scope and intricacy of the issue. [Feel free to add corrections/criticisms, gang] Let's start with the basics.

A credit default swap (CDS) is a bilateral contract under which two counterparties agree to isolate and separately trade the credit risk of at least one third-party reference entity. Under a credit default swap agreement, a protection buyer pays a periodic fee to a protection seller in exchange for a contingent payment by the seller upon a credit event (such as a default or failure to pay) happening in the reference entity. When a credit event is triggered, the protection seller either takes delivery of the defaulted bond for the par value (physical settlement) or pays the protection buyer the difference between the par value and recovery value of the bond (cash settlement).

Credit default swaps resemble an insurance policy, as they can be used by debt owners to hedge, or insure against credit events such as a default on a debt obligation. However, because there is no requirement to actually hold any asset or suffer a loss, credit default swaps can be used to speculate on changes in credit spread.

Credit default swaps are the most widely traded credit derivative product[1]. The typical term of a credit default swap contract is five years, although being an over-the-counter derivative, credit default swaps of almost any maturity can be traded. [More, and it doesn't get any easier]

This already complex instrument rose in popularity as things were booming. But the growth has been phenomenal. The NYT does a good job of explaining the problem.

The market for these securities is enormous. Since 2000, it has ballooned from $900 billion to more than $45.5 trillion — roughly twice the size of the entire United States stock market.

No one knows how troubled the credit swaps market is, because, like the now-distressed market for subprime mortgage securities, it is unregulated. But because swaps have proliferated so rapidly, experts say that a hiccup in this market could set off a chain reaction of losses at financial institutions, making it even harder for borrowers to get loans that grease economic activity. [More of a superb article, with cartoon to help guys like me]

[Update 2/22: The $45T figure may be overstated. See a another opinion here.]
Like the CDO problem, nobody knows exactly what the meltdown could look like. But the effect for agriculture could be felt in at least two ways I think.

First, the Farm Credit System could have a harder time selling their bonds which in turn fund your operating/real estate loans. They also have some exposure (note the word "some") to CDS's.

The total amount of credit default swaps in use by the Farm Credit System is unknown, although, for the year ending December 31, 2006, the Funding Corporation stated, "we have reduced the credit risk of some real estate mortgage loans by entering into agreements that provide long-term standby commitments to purchase System loans and other credit guarantees, including credit default swaps. The amount of loans under credit guarantees was $3.2 billion at December 31, 2006 and$3.6 billion at December 31, 2005. [More]

With their unique status and relatively small needs, FCS would probably be one of the last bond originators to take a serious hit, but this can't be a good thing for them.

A particularly pessimistic, but well-documented opinion on the whole problem borders on the whimperingly-scary:

$45 trillion bet on swaps with the entire treasury market is a mere $4 trillion is simply absurd. Compounding the problem is lack of knowledge abut who the guarantors are and lack of liquidity in much of the derivatives market. There's always plenty of liquidity when times are good. However, liquidity is a coward. It runs and hides at the first sign of trouble.

Things are so illiquid now that even the municipal bond market has locked up. Insurance guarantees made by Ambac and MBIA are at the heart of it. See No Underwriter Support For Failed Muni Auctions.

Credit Default Swaps on Ambac and MBIA are trading 7 or more levels below investment grade (deep into junk) and 12-14 levels below the AAA or AA ratings assigned by Moody's, Fitch, and the S&P. Clearly this calls into question the competency of the rating agencies.

Banks and brokerages are unwilling to commit capital and who can blame them?

* No one knows what anything is really worth because there is no market at all for some of these securities.
* Banks and brokerage houses are afraid of a downgrade of Ambac and MBIA because it might require as much as $200 Billion more in capital to be raised.
* Mark to fantasy models have too much stuff on the books at unrealistic prices.
* No one trusts the ratings put out by Moody's, Fitch, and the S&P.
* Fears of counterparty failures are in everyone's minds.

Credit default swaps are going to blow sky high. If 10% of credit default swaps blow up, it would wipe out $4.5 trillion in capital. A mere 1% hit would wipe out $450 billion. We don't know when, but we do know the fuse is lit. [More of a view I don't fully share, but find credible nonetheless]

Second, as the staggering reality of the risks we have been blithely discounting in the Big Money arena become horrifying apparent, frightened and/or singed investors could fall in love with harder assets: commodities (especially gold) and the only strong player in the real estate sector: farmland.

While I think pressure from 1031 swaps has eased, the pure investment play for land is another story. This would seem to jibe with admittedly anecdotal evidence of insurance money flooding back into farm loans and demand for large tracts from land brokers.

The most worrisome aspect of this is the same problem we are having in the commodity pits - the sheer volume of cash dwarfs the assets available. Keep in mind that you can buy every acre of farmland in the US for about $2T. Now compare that to the numbers above.

My advice: do whatever is possible not to let land go to public sale. Talk to landowners about the importance of local, farmer ownership, and calculate carefully what your planning horizon is. Short term (your lifetime) may eliminate you from considering a purchase. But I would seriously contemplate devoting two generations of work - and (gasp) sacrifice - to establish a secure base for a third.

Fewer stores as well...

We've heard plenty about the housing slowdown. And the data is starting to become real in the form of layoffs and plant idling. But that's not all that is slowing down in the construction biz.

Retail space demand is being hit by a triple whammy.

And supply is up. This decade's build­ing frenzy produced a bumper crop of new retail space—from McStrip malls built near new McMansions to hip new bou­tiques in the ground floors of hip new Mi­ami condo buildings. But the occupants for new retail space haven't ma­terialized. In the fourth quarter of 2007, the national retail-vacancy rate rose for the 11th straight quarter to 7.5 percent, the highest level since 1996, according to research firm Reis Inc. With new projects coming online—34 million square feet of retail space will be completed in 2008—the rate is expected to climb further to 8 percent. In the parlance of the trade, many chains are simply over-stored. [More]

Now add in the relentless expansion of on-line retailing, and consumer spending jitters, and I think we have a decade or so breather from 1031 money flowing our from shopping malls into our farmland market.

Farmers may take this opportunity to increase their market share of farmland ownership. I hope so. It is farmowners who decide who gets to farm - not farmers.

Interest of some interest...

At a [great and packed!] meeting in Rockford, IL for Syngenta, heard some scuttlebutt that dropped my jaw.

Apparently life insurance [Hartford, MetLife, etc.] companies are back into ag lending big time, sometimes undercutting FCS by as much as 2%. In fact, consider this deal:

5 yr.lock, 15 yr. amortization, no recourse, no principal (!), for less than 4.5%. Do the math. That's a payment well below going cash rents for my area. To be sure this is for gold-plated borrowers, but many producers fall into this category.

It takes a while for cuts in the short term-rates to have affect (if any) on long term, but rates could be going even lower.

There is much advice going 'round about paying off debt as a first priority during our grain boom. The market seems to be saying otherwise. Money looks like the last form of wealth for me to pile into. Especially when inflation fires up - as I think likely.

When serious money people are diving into farmland investments and financing, I think it safe to consider they are not idiots. In fairness, I am sure I am looking for data to confirm my inclinations, so take it FWIW.

*****

On another note, this whisper from a friend close to the situation.

FYI on U of IL on cash rents. There were 16 farms put up for cash rent auction this year. 194 bidders for the farms.
3 of the orginal tenant were the high bidder on the first round. The U of IL gave all tenants on the 16 farms an opportunity to match the high bid after all the bids were opened. 9 additional tenants agreed to match the high bid.
So 12 of the orginal tenants will be farming the ground for this coming year.

This all off the record but it came from a good source. No report of the cash rent amount paid per acre - yet.

I think this is a good outcome for all on a subject that riles many folks up. Locals stepped up and defended their turf. Trustees maximized their income.

Looks like a free market solution to me.

Anthropogenic soil change…

It's not enough many scientists think we're changing the climate, some also think we are fundamentally changing the land.

The dirt under our feet is being so changed by humans that it is now appropriate to call this the "Anthropocene (or man-made) Age," says a new worldwide overview by Duke University soil scientist Daniel Richter.

"With more than half of all soils on Earth now being cultivated for food crops, grazed, or periodically logged for wood, how to sustain Earth's soils is becoming a major scientific and policy issue," Richter said. His paper appears in the December issue of the research journal Soil Science.

"Society's most important scientific questions include the future of Earth's soil," Richter added. "Can soils double food production in the next few decades? Is soil exacerbating the global carbon cycle and climatic warming? How can land management improve soil's processing of carbon, nutrients, wastes, toxics and water, all to minimize adverse effects on the environment?"

"Each of these questions require long-term observation and analysis, and we know far too little about how to answer them in much detail," he said. "We need to work to sustain soils with a greater sense of urgency." [More]

This could be easier to sell to the "it's-human-hubris-to-think-we-can-alter-the-environment crowd" than man-caused climate change. We all know of farmed out, eroded soils. But measuring this change on a global scale could prove alarming, if it is actually possible. Or it might reassure us of nature's regenerative powers.

Anyway, it's another example of the way Google creates a tool and then uses are found for it.

Now's our chance...

For the last two decades the big winners in agriculture have included many geographically fortunate operators. Their family farm just happened to be close to the new Interstate exit and they were able to to exchange 200 acres for 2000.

Of course, those 2000 acres were acres that locals failed to step up and buy. Or could not begin to, because of the price. Regardless, 1031 exchanges have created the seeds of an "agristocracy" based not on merit but good fortune.

But in fairness, almost all successful farmers today can be labeled as lucky. The accident of birth or marriage can make an indifferent ag talent into a success. When you don't have to pay rent, you can have a poor marketing or production record and still survive.

The current perhaps brief window of enormous farmer margins and low interest rates offers an unparalleled opportunity for farmers to reclaim some lost ground (literally). Best of all, 1031 exchanges may be a long time returning in force, judging from the commercial real estate market. If they are closing big box stores, they don't need new locations.

Taken together, these closings amount to a tiny fraction of the nation's retail space. But they're indicative of a larger retrenchment under way, one that is likely to continue. America's largest chains—from Wal-Mart to Home Depot, from Starbucks to the Gap—are all in slow-growth mode in the oversaturated domestic markets. Circuit City and Sears are just two national retailers who may find it necessary to shrink their national footprints in 2008. And with consumer spending having slowed, it's much more difficult for landlords to fill newly vacated space. [More]

This may be no more than a brief lull, but if farmers don't take advantage of it, we can assume they prefer to become a pure service industry to a "landed gentry".

Gaming the farm program: In the beginning....

As negotiators work to make payment rules we sneaky farmers can't (with ample professional help) subvert, we could be simply echoing ancient rituals from very, very early "farm programs".

Shmita (Hebrew: שמיטה, literally "release"), also called the Sabbatical Year, is the seventh year of the seven-year agricultural cycle mandated by the Torah for the Land of Israel.

During Shmita, the land is left to lay fallow and all agricultural activity—including plowing, planting, pruning and harvesting—is forbidden by Torah law. Other cultivation techniques—such as watering, fertilizing, weeding, spraying, trimming and mowing—may be performed as a preventative measure only, not to improve the growth of trees or plants. Additionally, any fruits which grow of their own accord are deemed hefker (ownerless) and may be picked by anyone. A variety of laws also apply to the sale, consumption and disposal of Shmita produce.

A second aspect of Shmita concerns debts and loans. When the Shmita year starts, personal debts are considered nullified and forgiven.

The Book of Leviticus promises bountiful harvests to those who observe the shmita and makes observance a test of religious faith.

The rabbis of the Talmud and later times interpreted the Shmita laws in various ways to ease the burden they created for farmers and the agricultural industry. The Heter Mechirah (leniency of sale), developed for the Shmita year of 1888-1889, permitted Jewish farmers to sell their land to non-Jews so that they could continue to work the land as usual during Shmita. This temporary solution to the impoverishment of the Jewish settlement in those days was later adopted by the Chief Rabbinate of Israel as a permanent edict, generating ongoing controversy between Zionist and Hareidi leaders to this day.[1]

The current Shmita year began on Rosh Hashanah of the Hebrew year 5768, and extends until 29 Elul 5768 (September 13, 2007-September 29, 2008). (However, fruits which are harvested in the spring and summer of 2008 must be treated as Shmita produce well into the first year of the new agricultural cycle.) [More]

Seemingly arbitrary rules deigned for religious or (in our case, political reasons with economic pretensions) are tough to enforce at the lowest level. The belief in enforcement without full buy-in by the people involved is, I think, proving to be ill-founded. Despite setbacks here and abroad individual freedom and empowerment are on the rise, and both the size of populations and technology (abetted by no small amount of truculence) has made the threat of punishment pretty laughable.

Shmita occurs every seventh year, as a kind of sabbatical for the land, and it is mandated in the Torah. In Exodus 23:10-11, for instance, shmita precedes the injunction for individuals to rest on the seventh day. “Six years you shall sow your land and gather in its produce, but the seventh year you shall let it rest and lie fallow, that the poor of your people may eat; and what they leave, the beasts of the field may eat. In like manner you shall do with your vineyard and your olive grove.”

That presumably worked fine in a primitive economy before decent fertilizer, but shmita presented problems for the new Jewish state. Zionism was founded on the notion of a return to the land, but a modern country cannot live on what falls to the ground.

So respected rabbis from both the Ashkenazic and the Sephardic communities compromised. Charged with interpreting religious law, or halacha, they devised the “heter mechira,” or sale permit, which allows Jews to temporarily “sell” their land to non-Jews for the shmita year, so the land may be cultivated.

It is similar to the practice during Passover, when lawyers do a big business “selling” leavened products to non-Jews, so they need not be discarded.

In largely Arab East Jerusalem, the manager of Jafar’s Super Market and Sweets describes shmita this way: “It’s all about fooling the man upstairs.”[More]

I have written about the hypocrisy of soon-to-be-meaningless refuge rules and as I suspected, farmers are already validating the illogic with their planters.

The principle lesson here (IMHO) is that few laws work well all of the time. Which is why we need fewer laws.

Hobbling the competition...

In true farm-lobby fashion, producers outraged that a legislative good deal is being exploited by ordinary citizens have managed to insert some serious curbs on 1031 land exchanges.

As part of the bill, the Senate is proposing to change the 'like-kind' standard to provide that “unimproved agricultural real property” is not like-kind to “improved real property”. “Unimproved agricultural real property” is defined as agricultural land that is enrolled in certain farm subsidy programs, unless the agricultural land is permanently retired from the farm subsidy programs prior to the date of an exchange transaction. Much of America's agricultural land is subject to these subsidy programs. What does this mean for exchanges of agricultural properties? It prevents farmers, ranchers and owners of agricultural property from exchanging out of improved agricultural property (livestock facilities, grain elevators, machine sheds, fence, tile etc.) and into the subsidized agricultural land. It also prevents farmers and ranchers from exchanging the subsidized agricultural land for any improved real property, including commercial, residential and tenancy-in-common (TIC) properties. Finally, it prevents owners of commercial and residential investment properties from exchanging into the subsidized agricultural land. Most likely, these provisions will result in agricultural land owners having limited choices in exchanging their farm or ranch land. If they decide they'd like to reinvest their land sale proceeds into an improved investment property they will be forced to pay the tax or exchange and lose the land's future ability to qualify for subsidies (thus potential reducing the value in the land). As you can see, this provision will have a significant impact on those that work with agricultural land and on those communites that are located in agricultural-based areas. [More]

The two sides here are interesting combatants. First, there is the 1031 industry of accountants, realtors, and financial advisors along with landed farmers close to retirement. These folks are driven by the rule that most Americans will spend $0.99 to save $1 in taxes.

In the other corner are farmers hoping to buy without having to compete with "outside" money. Tax-free exchanges have time limits and the feeling is that desperation in the last few days of the swap period drives land prices way beyond sanity.

My thought is most legislative inhibitions on free market action tends to come back and bite your own behind. Plus in the long run they tend to be futile as the restrictions get priced into the assets.

Still, for an industry that has worked to insert bizarre little goodies into any legislative package within reach, agriculture seems to be strangely unprepared for the same from other special interests.

My preference would be for capital gains taxes to be reduced to about 8%, at which point owners, buyers and the government could all be winners.

It could be all farmers...

In the land market from here on in. Consider this comment from Barrons:

The most imminent threat is the housing meltdown. Leuthold says that, historically, a convulsion in one part of the realty market eventually has affected all others.

In the agricultural sector, ranchland and recreational farmland already have been quietly hit, having peaked in 2006, according to brokers. Jack Horton of Vale, Ore., who has been selling rangeland for 36 years, says prices are down 10% on average, and as much as 20% to 30% in some areas of his state. Recreational plots, bought by sportsmen, have also tanked, he adds. The drought in the West also is hampering demand for working ranches, as is the high cost of cattle feed, resulting from -- what else? -- the ethanol boom.

BROKERS TOOK HEART WHEN Louis Bacon of Moore Capital Management spent $175 million recently on the 250-square-mile Forbes Ranch in Southern Colorado for a holiday retreat. "It's the American dream to own part of the West," Doug Hall of Hall & Hall a multi-state brokerage company located in Billings, Mont., says. "There are an awful lot of people who made a lot of money who want to enjoy it while they have it." But smaller places -- under 5,000 acres -- away from the mountains are harder sells, he acknowledges.

John Stratman, a broker for the Mason & Morse Ranch Co. in Glenwood Springs, Colo., concurs that the lower end of the market has slowed. "I don't think the buyers have gone away. They're on the sidelines because of all the negative publicity about the residential and subprime markets; and they're sitting there waiting to see which way the economy goes."

If the economy does teeter into a recession, that would make continuation of the farmland boom all the harder. At this stage, any investor should be wary of betting the farm on a farm. A Miami condo might be a better deal. After all, you can buy a nice one now for just 60% or so of what you would have had to shell out three years ago. [More , maybe - due to firewalling and temporary availability]

Farmers are definitely pouring profits into the land market, and for good reasons, I think. Slowing development pressure will decrease 1031 money, and advice like this could temper pure investment plays as well. But the hard truth is there is much more wealth to be invested than good places to put it right now. Farmland (about $2T) represents a small fraction of asset values here in the US.

The question is not so much if farmland is the best place to put money, but how much worse are all the other choices?

It's all about land...

At the recent Illinois Farm Bureau (or improbably, IAA) Annual Meeting the University of Illinois and its management of farms which have been bequeathed to the school riled up the members yet again.

As the University Trustees have shifted farms to competitive rents the outcry has crescendoed. These quotes from friends of mine are especially telling (via IFB FarmWeek - but not yet posted on their website.)

• Jim Reed, Piatt County Farm Bureau delegate, pointed out local agribusinesses and communities suffer when large scale farmers who don't live in the community rent university land. "As for rural development, this [competitive bidding] procedure is devastating.," Reed said. "They economic downfall should definitely make people reconsider what they donate to the university"
• "The gift of land to the University (of Illinois) is a long term investment, "said Terry Ferguson, DeWitt County Farm Bureau delegate. "We need to have full consideration of how that asset will be handled long term."

These are widely shared sentiments, but curiously unrealistic. One reason is few farmers really understand how important agriculture is (or more to the point, is not) their own county. As I have blogged before, producers should look at some rural income numbers to understand where they fit in the local economic scheme.

For example, in Piatt County (IL) here are some numbers for 2004* ($M):
Non-Farm Income (earned in Piatt Co)** 147
Farm Income 22
Transfer Payments (SS, Fed pensions, Medicaid) 72
Government (all levels) 34

* I used 2004 because farm income was negative in 2005 (the latest available)
** Like many rural counties Piatt has an enormous amount of income earned by residents outside the county as well: $243M in this case. Much of this may be from UI employees. Talk about biting the hand that feeds...

Given this data, I don't find any reason to support the idea renting to someone outside Piatt County would "devastate" the county. Furthermore, I would bet some Piatt County farmers farm in other counties. Is Jim suggesting residence requirements for renters?

Besides, all those acres are getting seed, fertilizer, etc. Hence some locality is enjoying an upsurge because their LSF (large scale farmer) is being successful. It would appear the better strategy is to make sure your community raises as many of its own LSF's as possible, if keeping your fertilizer, LP, fuel, etc. retailers vibrant is your highest goal.

Regardless, like virtually all rural counties, Piatt County economics are about old people, government and services - not agriculture. One of the true disservices of IFB is the reluctance of their economists to share real economic numbers with members.

OK, secondly, Terry confuses me as to whom the land has been given. Obviously the UI Trustees are under the impression that a deed in their name means they get to exercise the rights of ownership - not the delegate body of the IAA. I tend to agree with them.

It will be interesting to watch the IAA manage land that has been bequeathed to them. I would also love to hear the attorney who advises them on the responsibilities of trusteeship.
I also wonder if the IAA support of farm subsidies might be their larger problem. I am sure the U of I folks aren't crazy about seeing themselves prominently listed in the EWG subsidy database. Cash rents are the obvious answer to this public relations embarrassment.

I can understand people not liking the brutal competitive environment we now find ourselves in. Nonetheless, I cannot support special rules for a privileged few. And neither do legal property rights.

One farmer I discussed this with reasoned if they weren't going to manage it "right", the UI should sell the ground. This would be the ideal solution IMHO, but often prohibited by the bequest. But it is amazing how many of us want to run the farm after we're - umm, part of the farm.

Similarly, many renters seem determined to find ways to "domesticate" their landowners by rules and regulations that prevent landlords pursuing the their own goals.

[Update: In another conversation with a comrade here, he pointed out the UI trustees should be bound to follow the advice of their own ag economists who are pushing for widespread adoption of variable cash rents to allocate risk and reward "fairly" between owner and operator.

That's one way of looking at the dichotomy between the trustees and the profs. Another is the academics are out of touch with the motives and ownership philosophy of a significant number of landowners.]

Yet more reasons why farmers need to take even enormous risks to own as much of this primary resource as possible.

The conventional wisdom trap...

It is solemn pronouncements like this...

Land leases. Luc Valentin believes the ability to pay rent must be taken into account when signing a lease because higher crop prices and higher production costs will create thin margins. Leases will be renegotiated to provide higher payments to land owners even with financial uncertainty. Land owners have the least risk with a cash rent lease should not expect more than a crop share land owner with higher risk. [More] [my emphasis]

...that create competitive advantages for operators who are learning to manage risk alone. After telling landowners repeatedly what they are allowed to expect, what happens when someone offers them more?

The insistence by the farm operator on risk-sharing will, I believe, create numerous roadkill as those who "want it more" turn those entitlement demands into laments from First Runner-ups in the Rent Pageant.

Advice like this simply empowers the wolves among the sheep. [I continue to wonder what would happen if ag economists had to negotiate for their jobs every 3 years or so like producers do.]

I can appreciate the concept that if all farmers simply refuse to accept more risk, none will have to. But with $4 corn and $10 beans, we're not going to convince all farmers to buy into this tacit conspiracy. When high prices simply accelerate consolidation, I predict academicians will document carefully it was because the winners embraced and mastered risks.

This sheep is changing species.