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  2. ALTERNATIVES
March 05, 2012 12:00 AM

More institutional investors see farmland as a growing part of their portfolios

Arleen Jacobius
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    As an increasing number of institutional investors add or beef up real asset portfolios, farmland — once considered an out-of-the-way corner of the investment landscape — is gaining capital.

    In a low-returning environment, investors are attracted to farmland's income and 7%-to-10% return expectation. It doesn't hurt that agriculture is a natural inflation hedge and has a low correlation to other asset classes, industry insiders say.

    The NCREIF Farmland index represented $2.9 billion in the fourth quarter of 2011, an increase of 107% increase from the index's $1.4 billion market value in the fourth quarter of 2006, according to the data from the National Council of Real Estate Investment Fiduciaries, Chicago.

    Over the past 18 months, a number of investors have made farmland investments or included farmland in a real asset allocation.

    Among those investing: The Iowa Public Employees' Retirement System, Des Moines, in September committed $100 million to UBS AgriVest for a farmland mandate. The $180 million City of Alexandria (Va.) Fire and Police Officers Pension Plan on Feb. 9 made a $5.5 million farmland investment with Hancock Agricultural Investment Group.

    The Oregon Investment Council (which manages the $57.3 billion Oregon Public Employees Retirement Fund), the Los Angeles City Employees' Retirement System and the Orange County (Calif.) Employees Retirement System are among institutions that included farmland as part of newly adopted allocations to real assets.

    “As long as we are in a lower returning environment and have an expectation of future inflation, investors will continue to gravitate toward (an) income-producing asset class that is a hedge against inflation” like farmland, said Jamie Shen, senior vice president and alternative investment practice leader for the San Francisco-based consulting firm, Callan Associates.

    Indeed, Steven Bland, retirement administrator and CIO for the Alexandria Fire and Police Officers fund, said he proposed the investment because farmland can provide income return, diversification and be an inflation-hedge.

    LACERS' board included a suballocation to a hybrid of timber and farmland as an inflation hedge, according to the investment strategy statement approved by the board last month.

    Ms. Shen said that Callan conducted a single farmland search between 2000 and the beginning of 2010. Within the past 18 months, Ms. Shen said, Callan has conducted 11 searches. That's a lot for farmland, because it is such a small asset class compared to commercial real estate. “One farmland search for $400 million is enough to move the market,” Ms. Shen said.

    The 15 or so farmland managers that Callan tracks expect net returns of 7% to 10% over the next five to 10 years, depending on a manager's risk profile, said Ms. Shen, who grew up on a farm and currently owns a farm. That return, together with agriculture's income component, looks pretty good to investors.

    The NCREIF Farmland index return for the fourth quarter of 2011 was 8.7%, up from 5.79% in the fourth quarter of 2010. The 2011 return was made up of 5.11% appreciation and 3.58% income return, according to NCREIF. The index return for the year ended Dec. 31 was 15.16%, up from 8.81% in 2010. The annual return was split 7.87% appreciation and 6.96% income.

    “Historically something that would provide a 7% to 9% return ... did not seem that attractive to investors,” she noted. “In (a) low-returning environment, it looks good, especially with a 5% income yield.”

    The increased investor interest is encouraging some money managers to get into the asset class.

    Capital Innovations LLC started an agriculture strategy in August 2010, said Michael Underhill, chief investment officer of the Pewaukee, Wis.-based infrastructure manager. Capital Innovation manages a $100 million diversified global agribusiness fund.

    Agriculture “has a low degree of correlation to equities and bonds, and we are seeing outstanding returns in North and South America,” Mr. Underhill said. “Iowa farmland, for example, was up 34% last year.”

    In addition, the population demographics are stronger than in almost any other strategy in the capital markets, he noted. “We have a (global) population forecast to be 9 billion by 2050. Just to feed those people we need to increase output of protein by 75%, just so people aren't starving more than they are now.”

    “It's much more appealing to us and our clients to invest in things that are more thematic and systematic in generating returns,” Mr. Underhill said. “There's an increase in appetite for absolute returns in non-marketable investments that are backed by cash flows.”

    Investing since 2007

    TIAA-CREF has been investing in farmland since 2007. The firm has a $2.5 billion farmland portfolio that invests in North and South America, Australia and Central and Eastern Europe, said Biff Ourso, director and portfolio manager for agriculture, in the Charlotte, N.C., office.

    TIAA-CREF focuses on high-quality grain-exporting regions. The growth in emerging economies and the expansion of the middle class in emerging countries such as China and India have led to a larger consumption of protein, increasing demand for grain to feed livestock, he noted.

    In the U.S., TIAA-CREF has concentrated on making investments in the Midwest and the Mississippi River delta region, which includes Mississippi, Arkansas and Louisiana.

    Despite the surge in investor interest and rising values, insiders do not believe this is the beginning of a bubble. In the fourth quarter of 2011 farmland values spiked above historical norms, and the appreciation portion of the NCREIF Farmland index was the third highest in 20 years. But the increase in values has been driven by fundamentals, Mr. Ourso and others said.

    “Farmer profitability has been strong and so farmers have been competing for farmland and because of that we see a natural increase in values,” Mr. Ourso said.

    Institutional investor ownership represents only 1% of the market and debt is low by historical standards, so there is no fear of the asset class becoming overly leveraged, he said.

    Oliver Williams, president of Hancock Agricultural Investment Group, Boston, agreed. “We don't think institutional investors are moving the needle much,” Mr. Williams said in an e-mail. “They are still a very small slice of the overall pie, perhaps no more than 1(%) to 2%. U.S. farmland is still predominantly bought and sold by farmers. ... The USDA estimates the total value of farm real estate at $2 trillion in 2011. NCREIF, by comparison, was $2.9 billion” at year-end 2011.

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