Over the past decade, we have seen increased interest among the investment community in agriculture and farmland as an asset class. Not only are large, sophisticated, institutional investors across the globe evaluating (or already invest in) farmland and agricultural investments, so too, are increasing numbers of non-institutional investors.
Click here to read an article by Bonnefield’s Andrea Gruza that explores how farmland investments provide investors with a diversifying asset with strong ESG characteristics, climate change hedging capabilities and potential to support a move towards a net zero investment portfolio.
(Original article published in the spring 2021 edition of Radius European Investment Journal.)
The mood in much of the Canadian agricultural community has been positive lately. Following several years of depressed agricultural commodity prices, there is a significant rebound in prices across multiple commodities. The last time we saw similar commodity price growth, combined with low interest rates was in 2011 which marked the beginning of several years of double digit increases in farmland values. While there is no guarantee that we will have the same outcome, the signs are very encouraging.
1. Increased Demand from China
The catalyst for this rebound has been a massive increase from China for feed, as it rebuilds its hog herds following the devastating impacts of the 2018 swine flu that resulted in a ~60% reduction of the country’s breeding sows by the second half of 2019 (1). We expect that the increase in demand from China should be longer lasting as it will likely take two to three years to rebuild the pig herds back to pre swine flu levels.
2. Severe Drought in South America
A severe drought in South America since last October drastically reduced supply from Brazil and Argentina – two major corn and soybean producers. While this offers short-term support to pricing, recent rains in the region should provide positive conditions for the current harvest.
3. Russian Export Tax on Wheat
Finally, prices are also seeing an impact from a recently announced export tax that Russia placed on its wheat producers in an attempt to reign in recent domestic food price inflation resulting from COVID-19. In 2015, this had a major impact on global wheat supply. We expect a similar impact this year with wheat prices increasing materially.
Sources: OMAFRA, Grain Farmers of Ontario
Commodity Price Impact on Farmland Values
Given the magnitude of recent commodity price increases we took a look back to see what effect commodity prices have had on farmland values historically. Two notable characteristics emerge from this analysis.
1. Significant upside potential for farmland values resulting from a combination of high commodity prices and low borrowing costs.
This creates a favourable environment whereby farm profitability increases, leaving farm operators with more cash in their pockets. The combination of greater cash on hand and low borrowing costs facilitates an increase in farmland acquisitions. Having this combination of factors is important because, as we saw in 2007, an increase in commodity prices against the backdrop of high borrowing costs, did not see meaningful farmland value increases.
2. Farmland values have had historical downside protection through several years of significant commodity price decreases.
Not only have farmland values failed to track the declines in commodity pricing, they have actually continued to increase in value (albeit at a slower rate in years of significant commodity price declines.) This trend can be attributed to the favourable supply and demand dynamics that exist due to a limited supply of global arable farmland with an increasing demand for food. From 1961 to 2016 there was a 48% decline in hectares of arable land per person (2). This is attributable both to a growing population as well as a decline in total arable land from desertification and urbanization.
It is evident, based on historical analysis, that commodity prices can influence farmland values through enhanced farm profitability. Based on our experience of the last two decades, that influence is far more significant on the upside than it is on the downside.
What This Means For Farmland Values
While there is always potential for unforeseen events to arise, a review of current market conditions provides support for a positive outlook on farm prices. The combination of increasing commodity prices and low borrowing costs shows the potential for a return to farmland valuations reminiscent of the early 2010’s.
A Note on the Analysis
We focused our analysis on Ontario using the three main cash crops grown in the province: wheat, soybeans, and corn. According to data from the Ontario Ministry of Agriculture, Food and Rural Affairs (“OMAFRA”), these three crops represent roughly 71% of the total cropland in Ontario based on seeded acres which makes this a meaningful, albeit simplifying, analysis for evaluating general trends in the province. In addition to commodity prices, we have also included the prime rate as a proxy for farmers’ borrowing costs, as this also has a significant influence on land values. The graph above illustrates the annual percentage change in commodity prices and Ontario farmland values against the prime rate. To capture historical commodity prices, we used a hypothetical commodity price index comprised of 40% soybeans, 40% corn and 20% wheat. This is representative of a typical five-year rotation for an Ontario farmer of two years planted to corn, two years planted to soybeans and one year to wheat.
About Bonnefield Financial
Bonnefield is the foremost provider of land-lease financing for farmers in Canada. Bonnefield is dedicated to preserving farmland for farming, and the firm partners with growth-oriented farmers to provide farmland leasing solutions to help them grow, reduce debt, and finance retirement and succession. The firm’s investors are individuals and institutional investors who are committed to the long term future of Canadian agriculture. www.bonnefield.com
Bonnefield’s Vice President of Capital Markets Andrea Gruza joined host Robert Arnason on the Between the Rows podcast recently to discuss ESG Investing and its relevance for Canada’s agricultural sector.
“ESG investing isn’t necessarily a widely agreed-upon term and the definitions and parameters around ESG in the investing community really are evolving. It stands for environmental, social and governance factors. The term certainly has become pretty widely recognized and adopted across multiple industries over the last few years, not just within finance, and you’re hearing [it] from the majority of large sophisticated investors across the globe.
“I think everybody’s situation is unique and I can’t speak [for] all farmers across the country, but I don’t think ESG is [just] a trend. I can imagine the terminology around ESG evolving and the set of considerations for each industry changing over time as it better reflects what’s happening in the world around us. I think that as we learn more, we’re more aware of what things we should be thinking about when we evaluate how a business is performing.
Listen to the podcast and full interview below, or by clicking here.
Note: This is the final article in an eight-part series published by GAI News that examines eight existing trends set to alter the structure of our global food system. Be sure to read the first seven articles here: Part I , Part II, Part III , Part IV , Part V , Part VI and Part VII.
“Economic growth won’t feed a growing population living on this finite planet.”– Phil Harding
Concerns about population growth have circulated through discourse since ancient times. Philosophers, such as Plato and Aristotle, questioned the sizes of their respective communities and their capacity to nourish additional people when the world had a population of about 162 million [i]. Writers from ancient Carthage had dwelled on population growth when global numbers had reached 200 million people, who were noted as “burdensome to the world which can hardly support us”. As we approach a global population that is fifty times larger than in Plato’s time, the same concerns come to light, albeit with different information.
Productivity improvements have typically remained one step ahead of food demand, allowing the world’s population to grow geometrically over the past two hundred years. Although the population continues to grow, crop yield productivity improvements have slowed considerably in the past several decades[ii].
While the preceding seven articles of our ‘Agriculture in a Changing Climate and Society’ series focus on secular trends affecting the supply side of the global agri-food system, this final piece delves into the demand side. A multitude of evidence points to a singular fact: nutritional demand is increasing rapidly on a global basis[iii]. Some experts question the world’s collective ability to nourish this demand in the long term[iv], while others speculate that new technologies will need to be developed and implemented in order to address the supply/demand imbalance. The World Resource Institute (WRI) indicates that while fulfilling nutrient requirements for an additional 2.4 billion people in the next thirty years is achievable, the global agri-food system will have to undergo significant changes in order to adapt[v].
As external factors, such as urbanization, water scarcity and pollinator loss, are set to reduce global food supply[vi], the earth’s population is projected to continue increasing for the next century[vii]. Sub-Saharan Africa is set to foster most of the world’s population growth, an area that is likely to become less suitable for crop production over the next century. In addition to increasing populations, a growing middle class will naturally continue to increase the global appetite for meat, dairy, and high-value fruit crops. These products are characterized by high production and overhead costs compared to other commodities of similar nutrient profiles. While this consumption shift is positive from the perspective of social mobility and will likely foster a period of robust demand growth for farmers in the short-medium term, the increased demand will come at cost to the environment.
Some estimate that we will have to increase arable land by 593 million hectares (more than twenty-four times the size of the United Kingdom) between 2010 and 2050 in order to bridge the gap needed to meet increasing food demands[viii]. The greatest concern lies in our collective food security in conjunction with global environmental sustainability. The socio-ecological trade-offs that arise from developing forested land lends itself to notions that our arable capacity is reaching its peak.
Food Spending and Disposable Income
Spending on food in the United States, as a percentage of disposable personal income, has been sitting near its historic low since 2004. This does not come as a surprise, but as a paradox, as calories consumed per capita in the U.S. reached the all-time high of 3,828 per day in 2005[ix].
Figure 1: Normalized food expenditures by final purchasers and users[x].
Source: USDA, 2019
Food cost compared to relative wealth is historically low throughout the world, largely due to commercialization of value-chains, historical productivity growth, and national subsidies. While consumers in developed countries are currently offered nourishment at relatively affordable prices compared to their historical income levels, these prices generally do not address the ecological externalities involved in producing the food[xi]. As such, a trend reversal is forecasted to begin in the next twenty years for net food expenditure, predicated on a declining basis of scarce resources, transitioning food demand patterns and a need to account for the environmental effects of food production.
The Malthusian Theory: Cropland Per Capita
Most significant, agricultural producers are losing cropland per capita[xii]. A typical Western diet requires about 1.2 acres of cropland per year to supply the types of calories to which we are accustomed. Emerging economies are now consuming similar diets to those of the West with more meat and dairy. This is creating a critical point of increased demand for energy intensive food products. Many areas of the world, namely Asia and Africa, will not have the arable land to produce nearly enough food to nourish its population. Figure 2 depicts each region’s cropland per capita.
Figure 2: Acres of Cropland Per Person, 2016
Source: History Database of the Global Environment (HYDE)
If every person had the appetite of an average individual in the United States at the current level of production, we would need to convert every acre of forest into farmland and would still be short of calories by about 38 percent[xiii]. With current Western food consumption, a diet that is becoming normalized by the world’s middle class, only a select few countries have the capacity to domestically produce more calories than they consume. The burden of production will be left to a handful of agricultural exporters with enough productive cropland to contribute to the global food stores, such as Canada and Australia. Admittedly, the Malthusian model of food supply versus cultivated land does not offer full explanatory power for the planet’s carrying capacity. It does, however, paint a general picture of the planet’s capacity to nourish different appetites at current technological levels.
Calories versus Nutrients
In assessing the issues surrounding global food demand, a distinction should be made between calories and nutrient-requirements. While about 800 million people globally are suffering from a means-based caloric deficit[xiv], over 2 billion do not have regular access to safe, nutritious, sufficient food[xv]. The developing world will continue to struggle with food accessibility as its population grows. Further, crop nutrient capacity in equatorial regions especially, is incredibly sensitive to rainfall variability and spells of extreme heat.
The developed-world’s farming system, which will likely provide the nourishment for most of the world’s growing population, is largely based on maximizing caloric production rather than nutrient density and diversity. This model has perpetuated throughout agricultural economies, as farmers are incentivized to maximize their yields in response to historic consumer and government interests in driving down food costs. Farmers act as rational participants, naturally responding to the markets they supply.
The developed world’s agricultural system is still incentivized with the same family of subsidies that were legislated at the dawn of the third agricultural revolution. In North America and Europe these subsidies typically offer support for a handful of crops with high caloric density such as feed-grains and oilseeds.
While global needs, production methods, and resource constraints continue to change, the policies surrounding the food system have remained largely unchanged since their inception. National subsidy programs are frequently reciprocated by similar or equivalent programs in neighbouring countries, leading to antiquated and sticky legislative movement across international value chains. Re-orienting farmer incentives from caloric density to nutrient diversity could be a fundamental step towards solving this issue by producing foods which meet the needs of a growing consumer base.
Solutions, Steps, and Goals
While the difficulties in feeding a growing population are considerable, there remains optimism that it can be achieved. There are 10 steps that would help us to address the challenges related to nourishing the food demands of a growing population. Each topic is complex, worthy of its own article, and many have been listed by the World Resource Institute as keys to “feeding the 10 billion”.
Food Waste Mitigation: Evidence indicates that the most effective mechanisms for supplying accessible and nutritious foods exists in reducing food waste rather than growing greater volumes of crops per acre. In the developing world, most food waste occurs at the production and storage levels, while in the developed world a staggering amount of food is lost at the consumption and market levels.
Investment in Aquaculture & Developing Sustainable Fisheries: Improved fish farming technologies including new genetics, infrastructure, and algae-based feeds have increased the competitiveness and investment merits of the aquaculture industry. Preservation of current fishery stock, alongside sustainable farming methods, will be the foundation from which we can offer omega-3 fatty acids in the future.
Climate-Controlled Agriculture: With so much emphasis placed in farmland per capita and the notion of declining scarce land assets, climate-controlled agriculture is consistently climbing towards profitability, and therefore viability, on a large, commercial scale. Investing in low-cost options such as warehouse conversion may prove to be the next frontier of effectively nourishing urban populations. With this being said, 95 percent of our food, even in the developed world, comes from farmland.
Improved Technology & Genetics: While crop-yield productivity growth has been slow compared to green revolution levels, new advances in crop genetics and molecular biology are remarkably promising. Further public and private investment in crop breeding, biologicals, and AI technology could make all the difference in feeding the next 2 billion people.
Enhanced Water Management: Water depletion in groundwater systems continues to be one of the most alarming aspects of modern agriculture. We will eventually have to shift to a process where crops are irrigated only through sustainable water sources, such as rain-fed reservoirs, rivers, and/or snowmelts. That shift should begin before aquifers are fully depleted.
Soil Health Preservation: Some scientists estimate that we are losing up to 1 percent of topsoil each year, with nutrient availability degrading as well. Nearly two-thirds of this degradation is derived from deforestation and overgrazing. Incorporating techniques such as no-till agriculture, rotational grazing, drill seeding, and certain organic production methods could significantly reduce the rate of soil loss.
Sequester Carbon in Soils: What benefits soil health may also create the opportunity to sequester additional carbon. Maximizing soil organic matter levels offers a multitude of effects, such as enhancing yields, sequestering more carbon, diminishing the required nutrients amendments, and enhancing ecosystem diversity. This can be achieved through the use of cover crops and healthier rotations, as well as no-till and conservational tillage methods.
Shift Diets Globally: While a sensitive argument in agricultural circles, the fact remains that reducing ruminant (beef and lamb) consumption would reduce the number of calories and land needed to produce that food-type by over ten times. If global diets slowly shifted towards plant-based proteins and nutrient-dense fruit/vegetable products, total stress on the environment would reduce. In addition, many farmers have the opportunity to improve pasture productivity with enhanced fertilizers and regenerative grazing techniques, which could increase the output of meat and reduce emissions.
Reforest Inefficient Lands: The second greatest contributor to carbon emissions is land deforestation, particularly in equatorial regions. Investing in direct efforts to bring these fallowed lands back to productive capacity or re-foresting the lands would promote carbon sequestration and a multitude of ecosystem services. Large food companies may also commit to plant trees and sourcing products from tropical deforestation-free value chains.
Re-orient Legislation: It may be time for consumers to take the burden of paying the ‘total price’ for food and water resources, which includes the cost of depletion and the externalities involved in using the resource. Further, subsidies and farm support should slowly start to shift towards food types that dovetail with the nutritional needs of our growing population.
Ultimately, addressing challenges pertaining to population growth and its nourishment will require active collaboration between businesses, policy makers, and consumers. Resources must be used more efficiently, and innovation will need to be spurred by public and private support. The above 10 points are topics that will exist throughout this century and likely beyond it. Many solutions to the nourishment issue are also investable opportunities, underpinned by global demographic trends. Those who have the opportunity to allocate capital also bear the responsibility to deploy their resources towards environmentally resilient strategies and regions. With investors in all asset classes assessing how they can limit their exposure to the effects of global warming, there are few industries more intertwined with climate change than agriculture. The effects of climate change are relevant to every aspect of the global food system. The long-term issues that affect the world’s agricultural output become opportunities to invest, thereby creating value for investors and society.
Note: this article first appeared in Global AgInvesting on November 15, 2019 globalaginvesting.com. This is the seventh article of an eight-part series published by GAI News that will examine how the global food system is set to be altered by eight existing trends. Each month a new installment will be released. Click the following links to read the first six installments: Part I , Part II, Part III , Part IV , Part V and Part VI.
Written by: Jeremy Stroud, Bonnefield, Agricultural Investment Analyst
Institutional investors are allocating capital with greater longevity in mind than ever.(1) With US$84 trillion of institutional assets under management in the 34 Organization for Economic Co-operation and Development (OECD) countries and a lengthening timescale of liabilities, investors are increasingly considering factors that were previously overlooked.(2) As the Canada Pension Plan Investment Board (CPPIB) stated in its last annual report, its current strategy involves “investing in quarter centuries, not quarters” by addressing factors that are projected to pose a threat to return generation and capital preservation several decades in the future.(3) While crop pollination and insect extinction may not be issues that rise to the top of an investor’s mind, they are fundamental to many economic activities in the long term.(4) One-third of the world’s food supply is reliant on external pollinators such as ants, honeybees, and bumble bees. The quality and frequency of their activity is intrinsically tied to the success of the agri-food sector and all adjacent industries. The matter is therefore worthy of rigorous consideration when investing in agriculture.
Commercial fruit and vegetable producers – a group with the most economic dependence on the ecosystem services offered by pollinators – are seeing consistently declining pollinator populations.(5) Ecosystem biodiversity is at a lower level than needed to sustain healthy colony numbers, and investors may have a part to play in solving the issue.(6) Investors with access to local expertise, an understanding of biological sciences, and flexibility in capital deployment may benefit from investing in the preservation of native pollinators as part of their asset management activities. This may also be a key factor in underwriting new investments in fruit and vegetable land, as crop yield and quality fluctuates in proportion to the amount of pollination it receives.(7) Native wild pollinators have been shown to increase the shelf life and commercial value of fruit crops versus their domestically managed counterparts.(8) From the farmer’s standpoint, permanent crops such as orchards, vineyards and bushland as well as row crops like canola, beets, and strawberries are all dependent on external pollination.
Neonicotinoids
There exists a contentious issue in modern agricultural communities where pesticides such as neonicotinoids, which account for about 25 percent of global agro-chemical sales, are perceived to cause destructive effects to bee colonies. As there exists a correlation between higher pesticide use and regional colony collapse disorder frequency, countries who use the most pesticides are projected to have more rapidly declining bee populations. With this being said, a statistically significant study of causation has yet to be found, and the issue continues to be debated in agricultural circles. Exhibit 1 shows the extent of pesticide use by country.
Exhibit 1: Pesticide Use per Hectare of Cropland (kg/ha), 2014
Source: United Nations Food and Agriculture Organization, 2014
As seen in the above chart, farmers in countries such as China and the Netherlands use three times more pesticides on their crops than farmers in the U.S., UK and Canada. The latter countries may attribute part of their moderation in chemical use to the cold winters which naturally regulate pest and disease risk. Countries with year-round growing seasons and extended periods of wetness are more susceptible to the growth of undesirable organisms. In contrast, pollinators such as bees are more likely to thrive in Canada due to its lower population density, greater extent of forested regions and reduced use of pesticides compared to other agricultural producers.
Honeybees
A recent comprehensive study indicates that the U.S. agricultural landscape is 48 times more toxic for bees than just 25 years ago.(9) Honeybees, which are used by the US Environmental Protection Agency (EPA) as a proxy for other insect populations, are consistently declining in numbers throughout North America. As insect populations drop, bird populations that rely on insect nutrition also decline.
Despite the abundance of rhetoric surrounding honeybee colonies in the United States, the insect is not native to North America. Their genetic predecessors were first seen in Asia over 300,000 years ago and the species we see today was brought to the Americas by early colonists.(10) Honeybees may be thought of as a domesticated species, similar to livestock, that are bred, managed, and shipped from farm to farm for their pollination capacity of crops such as blueberries. While they do provide additional economic value through their productive capacity for honey, honeybees are generally less efficient than native pollinators and are prone to spreading diseases to other insects.(11) Global pollinated crops are valued at over US$212 billion per year, a value that is expected to accelerate at a pace faster than typical grain crops due to a growing global appetite for fruits, nuts and vegetables.(12) Exhibit 2 demonstrates where pollinator services provide the greatest benefits on a per hectare basis.
Exhibit 2: Pollination service contribution to the crop market output ($USD/ha)
Source: Potts et al., 2016(13)
The map above shows areas such as southern Europe and Asia as key regions where investment in pollination service could make the greatest improvement to crop market outputs. The total value of pollinator services may be attributed to thousands of species; however, and as some academics have stated, honeybees have a tendency to “hog the limelight”(14).
Alternative Pollinators
While honeybees are in vogue as a topic of discussion, non-bee pollinators such as flies, beetles, ants, wasps, butterflies, bats, and birds are all important contributors to global crop production.(15) Some studies estimate that these alternatives offer up to 50 percent of total pollinating services for all fruit, nut and vegetable crops.(16) With this being said, secondary pollinators are less efficient per visit, and cannot be relied upon to replace bee populations for specific crop types and climatic zones.
Considering that ecosystem fragility is a national or even continental issue, opportunities to work with governments in the form of Public-Private Partnerships may offer interregional solutions. Initiatives such as the Integrated Crop Pollination Project may be pointed to as a progressive example of the intersection between profitable farm management and environmental enhancement. An analysis from the Journal of Economic Entomology estimates that profit per acre can increase by over US $2,000 per acre of tree fruit land by incorporating alternative pollinators such as the native blue orchard bee on farms in North America.(17) This requires maintenance, expertise, and the deliberate allocation of patient capital, forgoing short-term profits for long-term gains.
Pesticides are necessary for generating the long-term crop yields that are needed to nourish the growing global appetite, but the management with which they are applied is crucial to preserving a diverse ecosystem – both above and beneath the soil. Strong evidence suggests that large-scale fruit and vegetable farmers could benefit from investing in the establishment and stewardship of wild pollinator colonies. Governments and enterprises are adopting a broader recognition for the roles that biodiversity and ecosystem services play throughout the value chain.(18) This is underpinned by a consumer base with preferences for supporting transparency and sustainability – a trend that is unlikely to disappear. Companies and investors who act early on this issue may benefit from an early mover’s advantage, industry recognition, and the development of proprietary processes.
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