Can Farmland Sector Bubble be an Unintended Consequence of Near-Zero Interest Rates?

There is no doubt in my mind that the agriculture sector is an excellent long-term investment theme. I had discussed the fundamentals of the agriculture sector in one of my earlier articles and I remain bullish and optimistic about the sector. 

At the same time, I am concerned about too much money flowing in the sector leading to a bubble in the medium-term. This concern is especially valid in a economic environment where easy money is available and money is moving swiftly from one asset class to another leading to high volatility and several small pockets of asset bubbles. 

Just to make my concern clear, the chart below gives the percentage change (year-on-year) in farmland values in United States from 1980 to 2011.

Change in Farmland Prices in the United States (Year-on-Year) from 1980 to 2011

As it is evident from the chart, there has been a sudden spurt in prices from the fourth quarter of 2009.

I am not suggesting that 7-8 quarters of price rise (that too backed by certain fundamental factors) leads to a bubble in farmland prices. All I am suggesting is that the rising interest towards farmland as an investment can lead to skyrocketing prices relatively faster in an environment of excessive and easy liquidity.

Further, if we look at the farmland values to rent ratio, the multiples are at the highest levels since 1975. Clearly, there are factors, which bring in some concern related to a relatively stretched valuation of farmland.

Farmland values to rent ratios at highest levels since 1975

The next chart gives an indication of the scenario I am talking about (related to speculation). The chart gives the reasons for farmland purchase by non farmers. A majority of the respondents (highest in the last five years) have purchased farmland as an investment. 

Survey results on Reasons for purchase of farmland by non farmers

In my opinion, people looking at farmland as an investment option will increase further and it might not be long before we see more and more speculative buying.

On a positive note, farmland bought by farmers grew from 60% in 2005 to 73% in 2011. The intention of farmers would primarily be to take advantage of rising food prices than to buy farmland as a short to medium-term investment. 

I again emphasize here that I have no problems with the fundamentals of the sector and I do consider investment in farmland as a good investment option. I just want to remain cautious about the unintended consequences of artificially low interest rates and flooding of the global financial system with more and more liquidity.

farmland investment  – (April 25, 2012 at 12:08 PM)  

Great post. Love hearing the agriculture story. Would say though that when it comes to farmland, it depends on where it is located. It may be overvalued in the US and also in England (I am a Brit), but in certain emerging market countries and also Australia, there is some great upside.

Macro Analyst  – (April 25, 2012 at 1:28 PM)  

Yes, completely agree with your point. Had policies been relatively favorable, India was a great destination too for long-term investment in farmland. In terms of fundamentals, agricultural commodities and agricultural land prices (in general) would continue to do well.

HistorySquared  – (April 25, 2012 at 4:10 PM)  

Great article. Bloomberg wrote an article last fall that you may like. "Fed Scrutinizes Farm Banks as Soaring Land Draws Bubble Concern." You do have the low end in China experiencing wage increases, but they have a massive bubble that will hurt industrial commodities. The correlation goes to one amid a fall.

Cheers
http://www.businessweek.com/news/2011-10-06/fed-scrutinizes-farm-banks-as-soaring-land-draws-bubble-concern.html

Jim Grant makes your point that rental yields are paltry. Of course, it could get much worse - US real estate had negative rental yields for some time. Perhaps it's a bubble in its nascent stage, thanks once again, to too much cheap money floating around.

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