With a long-term investment horizon, pension funds are not looking too much into one poor agricultural season, especially considering farmland has been on a “five-year tear,” said Harry Leggat, St. Louis-based principal in the private markets practice of Mercer LLC. “You take the good with the bad and vice versa.”
The NCREIF Farmland index returned 14.8% for the year, 9.9% for three years and 12.1% for five years, all ended Dec. 31. Multiyear returns are annualized.
The S&P Goldman Sachs Agriculture Commodity Index returned 13.03% for the year ended July 20 and an annualized 17.96% for the three years and 6.72% for the five years as of that date.
Meanwhile, crop insurance will “absolutely” help pension funds that are not prepared to pay a high cost for an average crop yield, said Mr. Coxe.
“There will be enough certainty to give some return on investments,” Mr. Coxe said.
There are other ways to protect investments against drought, Mr. Leggat said, mainly through commodity hedging and diversification, both geographically and in types of timber and crops.
Most institutional investors are investing in funds, not individual assets, with an eight- to 10-year lifespan, Mr. Leggat said. Those funds do not use leverage so there is minimal impact on bad crop years, he said. He added that these types of investments are not appraised annually, so unless there is a multiyear drought, little impact will be seen this year.
“One bad year doesn't ruin a fund. It's not going to crush everyone,” Mr. Leggat said.
Gary Myers, principal at TimberLink LLC, said the drought is not causing any change in investment strategy at the firm that manages about $10 billion in timber assets worldwide for institutional investors. “These guys are long-term investors and don't get bogged down with seasonal problems,” Mr. Myers said.
The $23.1 billion Iowa Public Employees' Retirement System, Des Moines, is finalizing its first timber and farmland investments of $100 million each, but Karl Koch, chief investment officer, said the drought's impact would be “negligible” in the short term.
“However, a prolonged drought in Iowa and the Midwest would obviously have a global impact on food prices, which could have far-reaching impact on the U.S. and world economies,” Mr. Koch said in an e-mail. “The longer the drought persists, the larger the potential economic impact to Iowa, the Midwest and the nation.”
The National Oceanic and Atmospheric Administration said there have been 18,953 record high temperatures recorded as of July 20. The U.S. Department of Agriculture reported as of the week ended July 15 that 38% of the nation's corn crop was in poor to very poor condition, compared to 30% a week earlier, and 30% of soybeans were in poor to very poor condition, vs. from 27% the prior week.
The drought all but ensures there will be little carry-over of crops into next year. That means companies such as fertilizer producers are going to see a big boost for next year's crop.
CF Industries Holding Inc., a global fertilizer manufacturer and distributor, has seen its stock rise to $202.77 at the end of trading July 20, up 22.9% from $165 just a month prior. Monsanto Co.'s stock increased 12.2%, to $87.52 at the end of trading July 20 from $78 in mid-June, while Potash Corp., another global fertilizer company, has seen its stock rise 19.6%, to $45.43 from $38 last month. Agrium Inc., a Canadian-based fertilizer company, saw its stock rise 29% to $95.45 at the end of trading July 20 from $74 on June 4.
“Markets are looking where (farmers) are going to be in preparation for next year's crop,” Mr. Coxe said.
The combination of countries like China, Indonesia and India moving toward more high-protein diets with the loss of farmland acreage and increased demand for ethanol has been a boon for agriculture stocks, Mr. Coxe said. “These are companies that help their customers become rich,” Mr. Coxe said. “I think this is the best commodity sector to invest in” with the least amount of downside.
For the year-to-date period, the S&P Goldman Sachs Agriculture Commodity Index is up 28.26% as of July 20, driven by a run-up in corn and soybean prices, while the total return commodities index is up 1.17% for the same period.
States like Nebraska, Wisconsin and the Dakotas have seen adequate rainfall this year, but top-producing corn states Iowa and Illinois have been hit “very hard,” Mr. Coxe said. Still, corn prices are pointing toward profitability. Corn futures were trading at $6.71 a bushel for September 2013 he said, down from $7.68 this year, but “$6.71 is still enormously profitable for a farmer,” Mr. Coxe said.
“It's the forward contracts that are so impressive because the carry-over of grains will be very low,” Mr. Coxe said.
However, “that can be good and bad. If you lock in the profit, but can't deliver the goods ... it will be costly to cancel future contracts,” Mercer's Mr. Leggat said.
The average daily volume of corn futures traded through the first 11 business days in July is up 36% from last July while the average daily volume of soybean futures traded from April through the first 11 business days in July is up 42% from a year ago, according to data from CME Group, Chicago.