Hancock Farmland Investor

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1 December 218 Hancock Farmland Investor The U.S. Farm Economy* The USDA Farm Income and Wealth Statistics report released 11/3/218 projected a 12% decline in 218 net farm income, partially reversing the gains realized in. Rising costs and relatively flat cash receipts were the key factors driving the reversal in the direction of net farm income. The largest single component in rising production costs was an 18% rise in interest expenses, driven by increased debt levels combined with higher interest rates. Increased government payments moderated the overall drop in farm income, increasing 18% to $14 billion. In addition, the farm sector debt-to -equity ratio is on track to move higher in 218, rising from 15.1% in to 15.6%, driven largely by increasing real estate debt. In 218, net farm income is expected to decline 12% year -over-year to $66 billion, partially reversing a 22% gain in. Based on the USDA estimates, farm net income in 218 will have slipped 47% below the peak (Chart 1). The short-lived pick-up in farm income in was interrupted by higher input costs and the imposition of tariffs on U.S. agricultural products. Production costs are estimated to have increased 4.2% to $369 billion in 218. Net Farm Income and Net Cash Income Decreased Slightly in 218 Despite Higher Cash Receipts Chart 1: U.S. Farm Net Income vs. U.S. Farm Cash Income ($ Billions) $16 $14 $12 $1 The key component in rising production costs was an 18% rise in interest expenses, as debt levels and interest rates both moved higher. The expanded interest expenses accounted for about a quarter of the increase in total production costs. $8 $6 $4 $2 The key component in rising production costs was an 18% rise in interest expenses, as debt levels and interest rates both moved higher. The expanded interest expenses accounted for about a quarter of the increase in total production costs. On a more positive note, fertilizer costs are expected to decline 1.3% in 218, while seed costs ease by.6%. At $93 billion, net cash income, which excludes non-cash items such as depreciation, and accounts for changes in farm inventory levels, followed a similar trend lower in 218. Net cash income was down Net Cash Income 218F Net Farm Income Sources: USDA ERS Farm Income and Wealth Statistics, Nov 218 8% from, and cash production costs were up 5% year-over-year. (Continued on page 2) *All cover story data is from USDA ERS Farm Income and Wealth Statistics released November 3, 218. Hancock Farmland Investor December 218

2 Crop Cash Receipts Total U.S. Crop Cash Receipts The U.S. Farm Economy (Continued from page 1) Total Crop Cash Receipts Stable for the Third Consecutive Year Chart 2: U.S. Cash Crop Receipts ($ Billions) $8 $7 $6 $5 $4 $3 $2 $1 218F Total US Crop Cash Receipts Cotton Soybeans Fruits and Nuts Corn $25 $2 $15 $1 Farm sector cash receipts were relatively flat in 218, rising.7% to $375 billion, with livestock products down.2%, while crop income edged higher (Chart 2). Contributing to the 1.5% rise in crop receipts were increases in corn (up 4.1%), wheat (up 5.1%) and soybeans (up 4.6%). The gains in cash receipts for corn and wheat reflected higher volumes and prices, while the rise in soybean receipts was due to higher quantities sold. Partially offsetting the gains in corn, wheat and soybeans were estimated declines in vegetable/melon (down 8.5%), cotton (down 1%) and fruit and tree nuts (down 1.7%). Further offsetting the positive gains in row crop cash receipts was weaker livestock product receipts, which are estimated to have retreated in 218 by.4 billion (.2%), due to lower prices for beef and dairy, even as sales volumes of these livestock products increased. Rice Wheat Sources: USDA ERS Farm Income and Wealth Statistics, Nov 218 Contributing to the 1.5% rise in crop receipts were increases in corn (up 4.1%), wheat (up 5.1%), and soybeans (up 4.6%). $5 $- Total crop cash receipts have fallen from $232 billion in, when prices peaked, to an estimated value of $199 billion in 218 (down 14%). Corn is the largest driver of the decrease, as corn cash receipts fell from $72 billion in to a forecast $48 billion in 218 (down 33%) as prices fell from $6.89/bushel to $3.41/bushel. Wheat cash receipts have fallen from $16 billion in to a forecast value of $9 billion in 218 (down 44%) as prices have declined from $7.77/bushel to $5.15/bushel and production volumes fell. Soybean cash receipts have fallen more modestly, from $44 billion in to a forecasted $4 billion in 218 as prices have declined from $14.4/bushel to $8.81/bushel (Chart 3). Soybean cash receipts found support in increased volumes produced, reflecting higher acreage planted and rising yields. Cotton and rice cash receipts have remained relatively stable, with cotton down from $8.2 billion in to $7.9 billion in 218, and rice cash receipts down from at $2.7 billion to $2.4 billion in 218. Commodity Prices Rise Slightly in 218 Chart 3: Commodity Prices ($ per bushel) $16 $14 $12 $1 $8 $6 $4 $2 $11.3 $5.7 $5.18 $14.4 $7.77 $6.89 $9.36 $5.11 $ Q3 YTD Corn Soybeans Wheat Sources: USDA Oil Crops, Feed Grains and Wheat Yearbooks, September 3, 218 Fruit and tree nut cash receipts have dropped since peaking at $32 billion in. Over the past four years, strong production levels have led to higher stocks and lower (Continued on page 3) Hancock Farmland Investor December 218 2

3 The U.S. Farm Economy (Continued from page 2) prices. Although quantities sold increased, they have not fully offset significant price declines. Cash receipts for fruits and tree nuts are forecasted at $3.6 billion in 218 (down 5% from ) even with substantial volume growth. Given USDA supply and demand outlooks and price forecasts for the fall 218 and spring 219 crop year, farm net income and net cash income are likely to remain relatively stable in 219. Expected strong production for corn, cotton, and soybeans in fall 218 pushed prices down for these crops slightly, but expected price gains for wheat and rice will offset some of the declines. One potential upside scenario would be a resolution to the trade negotiations between China and the U.S., which would lower trade barriers and spur U.S. soybean prices higher. In the case of the permanent crops, large stocks and projected record production for walnuts will moderate any recovery in prices due to demand increases. Almond and apple prices are expected to be slightly lower on strong supply and stocks, while pistachio and wine grape prices are expected to rise, recovering from lows on strong demand. One potential upside scenario would be a resolution to the trade negotiations between China and the U.S., which would lower trade barriers and spur U.S. soybean prices higher. Farm Debt Has Increased at a Faster Pace than Farm Equity Chart 4: Farm Equity and Farm Debt ($ Billions) $3, $2,5 $2, $1,5 $1, $5 218F Farm Equity Farm Debt Real Estate Debt Increased from 55% of Total Debt in to a Forecasted 61% of Total Debt in 218 Chart 5: Farm Sector Debt by Category ($ Billions) $45 Sources: USDA ERS Farm Income and Wealth Statistics, Nov 218 $4 Farm Financial Metrics Since, USDA s estimate of the farm debt-to-equity ratio has increased from 12.7% to 15.6% in 218, driven by steadily rising debt (Chart 4). Farm debt, which includes real estate and non-real estate loans, has increased from $298 billion in to a forecasted value of $41 billion in 218 (up 38%). The majority of this increase is accounted for by real estate secured financing which has grown from $173 billion in to a forecasted value of $251 billion in 218 (up 45%). Meanwhile, nonreal estate debt has increased from $124 billion in to a forecasted value of $159 billion in 218 (up 28%). The real estate component of total debt grew from 58.2% in to a forecasted 61.2% in 218 (Chart 5). $35 $159 $155 $3 $148 $148 $148 $25 $13 $127 $124 $125 $2 $15 $154 $167 $173 $185 $197 $29 $226 $238 $251 $1 $5 218F Real Estate Debt Non-Real Estate Debt Sources: USDA ERS Farm Income and Wealth Statistics, Nov 218 (Continued on page 4) Hancock Farmland Investor December 218 3

4 F Percent The U.S. Farm Economy (Continued from page 3) While farm equity has grown 12% from $2.34 trillion in to an estimated $2.63 trillion in 218, it has not kept pace with debt, leading to rising debt-to-equity ratios in the farm sector. The increasing leverage in agriculture has led to some concerns about the current financial viability of the sector. However, the farm sector is still in relatively sound financial shape, with the current debt-to-equity ratio of 15.6% near the average of 15.7% for the postfarm financial crisis period, (Chart 6). Our belief is that overall farm sector financials in 219 will still remain healthy despite moderate decreases in overall on-farm prices and increasing agricultural debt. Investors should carefully consider sub-segment and regional variation around these averages, reflecting the importance of a well-diversified portfolio. Looking Ahead The current farmland market presents as many opportunities as threats to institutional investors. Although recent declines in farm income have led to falling to stagnant farmland values and lower cash yields in the short term, we believe that the cyclical downturn in farmland markets is near its end, as indicated by stabilizing crop income. The recent decline has been production (not demand) driven and the fundamentals of demand remain healthy, although changes in trade policy will continue to insert uncertainty into the medium-term market outlook. Debt-to-Equity Ratio Has Increased Since, But Still Below Average Chart 6: Debt-to-Equity Ratio % 17.6 % Average Debt-to-Equity Ratio ( F)= 15.7% Sources: USDA Farm Income and Wealth Statistics, Nov % HNRG Research Team Court Washburn, Ph.D Managing Director and Chief Investment Officer cwashburn@hnrg.com Keith Balter Director of Economic Research kbalter@hnrg.com Mary Ellen Aronow Associate Director, Forest Economics maronow@hnrg.com Daniel V. Serna Senior Agricultural Economist dserna@hnrg.com Elizabeth Shestakova Economic Research Analyst eshestakova@hnrg.com Weiyi Zhang, Ph.D Natural Resource Economist wzhang@hnrg.com Hancock Farmland Investor December 218 4

5 Farmland Market Indicators Corn Production Holds Steady in 218 Figure 1: Annual Corn Production Estimates, Major Producers (Million Metric Tons) South Africa China United States Argentina Brazil Global corn production in 218 is expected to remain nearly flat at 1.9 billion MT, with lower yields in China offsetting normalizing yields in Brazil and Argentina. Argentina s harvest is forecast to increase 33% to 43 MMT as corn production remains profitable despite a recent increase in their corn export tax. Brazilian production is forecast to increase 15% to 95 MMT as higher corn prices motivated farmers to expand corn planting. U.S. production is forecast to increase 1.5% to 372 MMT on higher yields, despite fewer planted acres than, while Chinese production is expected to decline 1% to 256 MMT. China s historical corn supply and use was recently revised by China s National Bureau of Statistics (NBS), with 218 production increasing by 31 MMT from earlier estimates but still below. South Africa s production is expected to remain similar to last year at 13 MMT. Source: USDA WASDE as of November 218. is estimated and 218 is projected. Years are marketing years. Soybean Production Rebounds in 218 Figure 2: Annual Soybean Production Estimates, Major Producers (Million Metric Tons) Argentina Brazil United States Global 218 soybean production is expected to rebound 9% to 368 MMT, mainly because of soybean output in Argentina normalizing to 56 MMT, up 47% over. U.S. production is forecast to increase 4% to 125 MMT on record yields and higher acres, and Brazilian production is forecast to increase slightly to 121 MMT. At 33%, Brazil s share of global soybean production is a new high. Already the number one soybean exporter, we believe Brazil is likely to overtake the U.S. as the leading global soybean producer by Source: USDA WASDE as of November 218. is estimated and 218 is projected. Years are marketing years. Hancock Farmland Investor December 218 5

6 Farmland Market Indicators U.S. Dollar Appreciates Against Competing Currencies Figure 3: Quarterly Exchange Rates Between USD and Agricultural Currencies (Indexed to 1 at : ) The strength of the U.S. economy and higher U.S. interest rates drove USD appreciation against most competing currencies in Q Comparing the strength of the USD to competitive currencies between Q2 218 and Q3 218: 1. The USD appreciated slightly (2%) against the Australian dollar..8.6 The USD appreciated 29% against the Argentinian peso, as Argentina s recession has led to sharp depreciation of the Argentinian peso Brazil Russia Canada Argentina Australia 29 Source: Macrobond as of Q The USD appreciated 4% against the Brazilian real with the Brazilian election contributing to macroeconomic uncertainty. The USD appreciated 4% against the Russian ruble as the ruble faced fresh U.S. sanctions. Bucking the overall trend, the CAD appreciated against the USD 2%. U.S. Corn Exports Benefit From Reduced Production in Brazil and Argentina in 218 Figure 4: Four Quarter Moving Average Corn Exports, Major Producers (Million Metric Tons) Argentina Brazil US U.S. corn exports in Q3 218 averaged 15.9 MMT (four quarter moving average), up 14.4% from last year and 1.5% since last quarter. The U.S. benefited from reduced volumes from competing exporters Brazil and Argentina. Chinese tariff impacts on U.S. corn are likely to be moderate, as China comprised only.5% of U.S. corn exports. Brazil s average corn export volume, 6.3 MMT (four quarter moving average), is up 27.3% from last year, after reduced second crop corn volumes in the first half of. Average corn export volumes from Argentina fell 1% from last year and 9.5% from last quarter to 5.6 MMT (four quarter moving average), because of reduced production. 218 Sources: FAS GATS, Comexstat, and Ministry of Agroindustry as of Q3 218 Hancock Farmland Investor December 218 6

7 Farmland Market Indicators U.S. Soybean Exports Start to Feel Effects of Chinese Tariffs Figure 5: Four Quarter Moving Average Soybean Exports, Major Producers (Million Metric Tons) Argentina Brazil US U.S. soybean exports were 14.2 MMT (four quarter moving average), down 5% from last year and up.5% from last quarter. The U.S. benefited from the gap left in export supply by reduced exports from Argentina. Brazil exported 19. MMT of soybeans (four quarter moving average), up 2.7% over last year, and 8.2% from last quarter, as Brazil fills Chinese demand and benefits from the Chinese 25% tariff on U.S. soybeans. Soybean exports from Argentina, at.55 MMT (four quarter moving average) decreased 69.4% from last year and 5.3% from last quarter, due to a smaller crop earlier in Sources: FAS GATS, Comexstat, Ministry of Agroindustry as of Q3 218 Row Crop Prices Decline in Q3 218 Figure 6: Row Crop Prices ($U.S. per bu) $2 $18 $16 $14 $12 $1 $8 Corn Wheat Soybeans After rising slightly in the first half of 218, U.S. row crop prices slid downward in the third quarter. Wheat prices decreased 2.5% from last quarter to $5.15/bu because of slower export sales and favorable winter wheat planting conditions. Soybean prices fell 9.5% since last quarter to $8.81/bu as China s tariff on U.S. soybeans effective July 6 impacted U.S. soybean exports and prices. Corn prices slid 5.6% from last quarter to $3.41/bu based on favorable 218 crop yield expectations. $6 $4 $ Source: USDA NASS as of Q Hancock Farmland Investor December 218 7

8 E Farmland Market Indicators Nut Markets Recovering with Record Production and Consumption Figure 7: Annual U.S. Average Grower Tree Nut Prices ($U.S. per lb.) $4.5 $4. $3.5 $3. $2.5 $2. $1.5 $1..5. Pistachios (in shell) Walnuts (in shell) Almonds (shelled) Sources: USDA as of October 218 and HNRG Research as of Q Years are marketing years. *218 nut prices are HNRG estimates Almond prices for 218 are expected to fall 5%, as USDA forecasts record 218 U.S. almond production at 2.45 billion shelled pounds, however industry observations are less optimistic, and below average carryover stocks should also boost almond prices. USDA forecasts a 1% larger 218 walnut crop, 1.38 billion pounds, and industry reports indicate high quality. Due to the strong 218 production, high tariffs into India (1% duty) and China (65% duty), and large carryover stocks, estimated 218 walnut prices are at 1 -year lows. Initial industry reports for pistachios indicate that the 218 crop is a record, about 9 million pounds, and high quality. With carryover from at just 32 million pounds, and Iran s off-year crop lower at 1 million pounds, prices remain firm. Pistachio prices for 218 are estimated up about 33% from a near 1- year low price in. Increased Chinese tariffs on U.S. nuts effective July 6 th raised duties on pistachios to 45%, on almonds to 5%, and on walnuts in shell to 65%. Over the last five years, China comprised only 2% of almond, 3% of pistachio, and 4% of walnut exports, whereas Hong Kong represented 1%, 4%, and 7%, respectively, mitigating the impact of the Chinese tariffs on overall tree nut export volumes and prices, as tree nuts bound for China continue into Hong Kong. Strong Global Row Crop Production Continues to Keep Annual Row Crop Returns Moderate Figure 8: NCREIF Row Crops Total Return (percent per year) and USDA Row Crops Cash Receipts (y/o/y percent change) 25% 2% Q4 Q2 Q3 NCREIF Row Crops Quarterly Total In 218, crop receipts are forecast to increase 2.1% because of growing cash receipts in corn, soybeans, and wheat, driven up mostly by increased volumes rather than increased prices. 15% Reflecting low commodity prices, the Q3 218 YTD total return for NCREIF row crops was 4.4%, only slightly higher than the Q3 YTD return for the past 3 years. 1% 5% % Sources: NCREIF and HNRG Research as of Q USDA Farm Income and Wealth Statistics as of November 218. NCREIF data is calendar years. USDA data is marketing years. Hancock Agricultural Investment Group is a participating member in the NCREIF Farmland Property Index. The Index requires participating managers to report all eligible properties to the Index. Usage of this data is not an offer to buy or sell properties. Hancock Farmland Investor December 218 8

9 Notes Farmland Market Indicators Figure 1. Corn production is charted on a calendar year basis and updated on a marketing year basis. The corn marketing year is from September to August for the U.S., from May to April for South Africa, and from October to September for China. The corn marketing year is from March to February in Argentina and Brazil. Corn Production data and forecasts are updated on a monthly basis by the USDA World Agricultural Supply and Demand Estimates Report (WASDE). Figure 2. Soybean production is charted on a calendar year basis and updated on a marketing year basis. The soybean marketing year is from September to August for the U.S., from February to January for Brazil and for April to March for Argentina. Soybean Production data and forecasts are updated on a monthly basis by the USDA World Agricultural Supply and Demand Estimates Report (WASDE). Figure 3. Exchanges rates are updated on a daily basis by Macrobond Financial AB. Figure 4. Argentina s agricultural exports are published on a monthly basis by the Argentinian Ministry of Agroindustry. Brazil export data is published on a monthly basis by Comexstat. U.S. exports are published on a monthly basis by the U.S. Census Bureau. Export data is reported on a 4 quarter moving average to adjust for seasonality. Figure 5. Argentina s agricultural exports are published on a monthly basis by the Argentinian Ministry of Agroindustry. Brazil export data is published on a monthly basis by Comexstat. U.S. exports are published on a monthly basis by the U.S. Census Bureau. Export data is reported on a 4 quarter moving average to adjust for seasonality. Figure 6. Row Crop Prices are published on a monthly basis by the USDA National Agricultural Statistics Service (USDA NASS). Figure 7. Permanent Crop Prices are published on a annual basis by the USDA National Agricultural Statistics Service (USDA NASS). Almond, Pistachio and Walnut price estimates for the current year are calculated by using the percent annual changes for the crop year in the prices from HNRG sources. Export volume data per USDA Economic Research Service. Figure 8. USDA Cash Crop Receipts data is published three times a year in February, August and November by the USDA s Department of Agriculture Economic Research Service. The U.S. level calendar-year forecast is first published in February. The August release converts the previous year s forecast to estimates and the November release updates the current year forecast. NCREIF Farmland Total Return data is published on a quarterly basis. NCREIF quarterly total row crops returns are aggregated to form the total return for the year. The total return as seen on the bar chart may not equal the annual total return as reported by NCREIF, because the NCREIF annual return is calculated by multiplying instead of adding quarterly returns together. Disclosures Investing involves risks, including the loss of principal. Financial markets are volatile and can fluctuate significantly in response to company, industry, political, regulatory, market, or economic developments. These risks are magnified for investments made in emerging markets. Currency risk is the risk that fluctuations in exchange rates may adversely affect the value of a fund s investments. The natural resources industry can be significantly affected by events relating to international political and economic developments, energy conservation, the success of exploration projects, commodity prices, and taxes and other governmental regulations. The information provided herein does not take into account the suitability, investment objectives, financial situation or particular needs of any specific person. You should consider the suitability of any type of investment for your circumstances and, if necessary, seek professional advice. 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