There’s something wholesome or even downright romantic about the idea of owning a farm. Farmland is an often-overlooked asset class within real estate, frequently overshadowed by the sexier investments. However, farmland can have a place in a well-rounded portfolio.
Similar to timberland investing, agriculture-based investing tends to have slightly lower but far less volatile returns than other types of investments. According to NCREIF data via Hancock Agricultural investment group, over the past 20 years, farmland total returns have ranged from mid-single digits to north of 30%, with only one year since 2000 showing slightly negative appreciation, which was offset by cash flow. What this tells us is that on a risk-adjusted basis, farmland is a very attractive asset class.
Segments of farmland
Owning farmland can mean a lot of different things. It starts with breaking it down into two major categories: row crops and permanent crops. Within these categories there are various crops that can be grown and different investment strategies to employ.
Row crops are crops that are planted and harvested each year and can be changed or rotated annually. These are commodities like corn, soybeans, wheat, potatoes, alfalfa, cotton, or rice. A key feature of row crops is the economies of scale needed to farm them profitably. The industry is trending toward larger and larger operators who grow on many thousands of acres.
Permanent crops, on the other hand, are exactly what they sound like: crops that produce the same commodity every year and aren’t replanted. These are things like oranges, avocados, almonds, walnuts, apples, pistachios, and wine grapes. These crops tend to be more specialized and can generate slightly higher returns, but come with the additional risks of less-liquid end markets and potential shifts in consumer preferences that can impact the prices more severely than row crops.
Benefits of farmland investing
One of the most appealing aspects of investing in farmland is the long-term, stable, and uncorrelated cash flow and appreciation associated with farmland. It’s very rare to see huge gains, but also nearly unheard of to suffer major losses. It also serves as a great diversification tool, as farmland tends to behave independently of stocks, bonds, or other types of real estate.
The potential for higher-than-normal inflation is also being increasingly discussed in economic and financial media. Farmland, being tied to commodities and serving as a hard, real asset that we can’t make more of, has many characteristics that should bode well for investors if serious inflation materializes.
There is also just something in everyone’s soul that generates joy from the idea of growing something from the ground. Being able to incorporate that into your investing life makes investing more fulfilling and interesting, in my humble opinion.
Ways to invest
Within these categories there are multiple potential channels to gain investment exposure.
Unless you’re a farmer, it’s probably not time to throw on some overalls and a straw hat and get out into the field. A better approach would be to look at it as you would any other real estate investment: Own the land and rent it out to a high-quality operator.
When taking this approach, there are a few things to keep in mind.
First, structuring the lease. In its simplest form, a lease can simply be a dollar amount per acre that the farm operator pays you in exchange for being able to plant, fertilize, water, harvest, and sell commodities on the land. However, you can also structure the deal to shift the risk/reward profile such that the farmer pays a lower base rent plus an additional rent escalator based on the price and yield of the harvest. This structure can be a win-win by reducing the risk the farmer takes via lower fixed costs while still allowing you as the landlord to earn a higher return if the operation goes well.
Another slightly riskier angle for farmland would be to bring in a partner in a third-party management capacity. Here, you’d be more like a farm owner, subject to the risk/return profile of the farming operation itself. You’d pay a management fee to your manager based on the revenue that comes in and the profit accrues directly to you. The manager would use their expertise in agriculture to operate the farm on a fee-for-service basis. In this structure, you’ve got the potential to earn higher returns, but you also lose the safety of a reliable rent payment.
In either of these capacities, depending on your wealth level and investment goals, it may make sense to invest as a limited partner (LP). As an LP, you can benefit from the scale of a larger farming operation while not needing to invest your entire net worth into the segment. You also benefit from the expertise of a sponsor who can dedicate their professional time and energy to finding the right opportunities.
Things to consider
Farmland owners need to first and foremost understand how to properly care for their land so that it remains sustainable and highly productive over the extremely long term—decades or even centuries! This means understanding soil nutrition, pH levels, irrigation techniques, erosion, crop rotation, sustainable farming techniques, and potential climate impacts.
You’ll also need to think globally. The end products of farmland can be exported anywhere in the world, which means you need to understand what is happening globally in terms of demographics, economics, personal incomes and preferences, and more. All of this can affect the demand for agricultural products and therefore the returns on your investment.
This is where understanding the difference between row crops and permanent crops is important. In many parts of the country, farmers can shift between several products like corn, wheat, and soybeans on the same plot of land, allowing them to take advantage of shifting markets. If you’ve got a pecan orchard, you can’t exactly transform those trees into avocado trees next year if the prices are better.
Sophisticated investors that understand how diversification and uncorrelated asset classes can benefit a portfolio will find that farmland can be an interesting investment option. It’s not going to be an area that makes you an overnight millionaire, but it is an excellent option for stable cash flow and appreciation while preserving wealth in a vehicle that has a strong track record. There is also the ancillary benefit of knowing that your investment dollars are going toward increasing the agricultural productivity of the earth, feeding more people, and growing something meaningful.