Timberland as an Investment

I ran across the following article that discusses the benefits of investing in timberland.  It's in an interview format and the answers are brief and to the point. I thought it was worth repeating.

The Ultimate Agriculture Investment

From the Daily Crux Interview Series
Saturday, May 7, 2011

The Daily Crux: You've done a tremendous amount of research on timberland investing over the years... and you've been a big proponent of this idea. What is so special about timberland?

Steve Sjuggerud: Yes... I've literally been all over the world researching timberland investing. I've spent hundreds of hours on it. I've recommended many timber stocks to my readers over the years. And I've personally invested in timberland.

There's a long list of reasons why investing in timberland is a great idea... and consistently produces big returns.

First of all, trees grow year in and year out. Trees in good growing regions in the U.S. grow at 6%-8% per year. They grow through recessions. They grow through wars. They grow through stock and real estate crashes. They grow through everything. They give you built-in investment growth that isn't guaranteed with a stock.

Along with the tree growth, the price of wood has grown at a consistent rate throughout the years. It's extremely difficult for a company to increase the prices of its goods by 6% every year. But the price of wood, according to legendary money manager Jeremy Grantham, has increased by that amount for the last 100 years. Specifically, he says "stumpage" prices – the value of all the wood on the stump – have beaten inflation by 3% a year over the last century.

Another nice thing is timberland is a resource investment, but it's not a constantly depleting one like a gold mine or an oil well. Trees will grow back. It's a sustainable resource investment.

And not to ramble on, but you should know, timber is uncorrelated to the stock market. It makes sense... the trees have never heard of the Nasdaq bubble... and they don't know what a "War on Terror" is. This makes timber a great place to park money in big portfolios... where you need diversification.

Crux: But what happens to your timberland investment in a down year, when lumber prices crash?

Sjuggerud: That's a great question. What happens when the market is slumping? When you can't get the price you need to make the business profitable? Did you just waste eight... 15... 25 years on an investment with nothing to show for it? The answer can be summed up in five words: "Bank it on the stump."

In the industry, it's a phrase that means if conditions aren't right for harvesting your crop, you just keep letting it grow. You keep the profits on the stump and wait for a more profitable time to sell your timber – most likely, when timber prices are in your favor.

One of the great benefits of owning timberland is you don't have to harvest it every year. It's not like fruit, where it's ripe just once and then you have to pick it. Instead, it grows exponentially on the stump for years.

This is not to imply that timber is an absolutely risk-free investment... But with the ability to bank it on the stump, investing in timber does come with an extra safety net. "If the rain rains, the sun shines, the suckers grow," Jeremy Grantham once said. "If you don't want to sell, they get bigger and more expensive."

Crux: Those are tremendous attributes. How has timberland performed over the years?

Sjuggerud: Take a look at this chart of the period from 1971 to 2010... which was filled with all sorts of bull and bear markets for stocks...

From 1971 to 2010, an investor in timber saw average annual returns of over 14% – turning $10,000 into over $1.5 million. That's better than stocks and bonds over the same period.

Here are the rough numbers on where timberland returns come from:

* 1% Land value increase

* 6% Biologic growth of the trees

* 3% "Stumpage" price increase (the price of the actual tree)

Crux: So timberland can serve as a good alternative investment when stocks are in a bear market?

Sjuggerud: Absolutely. One of the worst-ever bear markets in stocks began in the late 1960s and lasted until about 1980. An investor in stocks during that time lost money, due to inflation.

However, as the table shows, an investor in timber never had a losing year during that period. More often than not, the returns were in the double-digits... with a 59% return in 1973 and a 49% return in 1977.

To sum up, timberland offers high returns... It is a sustainable asset that can provide returns for centuries... It has no correlation to the stock market... It's less volatile... And it constantly grows in value.

Crux: So, how do you go about buying timberland? What's the easiest way to own it?

Sjuggerud: It's important to point out that rather than just going out and buying a forest, you want to make sure to invest in managed timberland.

The reason it's important to make the distinction is simple: Managed timberlands, according to a study conducted by the University of Georgia and published in the Journal of Forestry, generate returns almost four times higher than non-managed lands.

With managed timberlands, you get just what it says. You get professional managers who cultivate the trees, look after them, and harvest the trees and their products at the right time.

They look to earn extra cash by selling hunting rights to the land. They harvest and sell the straw and seeds that fall from the trees. Good managers even look to sell chunks of your timberland if a real estate developer comes along and offers a sky-high premium for your land.

My point is, everything on the "tree farm" – even the tree farm itself – is for sale. You can make these types of managed timberland investments privately, or there are usually a handful of publicly traded timberland companies on the exchange at any given time.

The big names in the U.S. are Weyerhaeuser (WY), Rayonier (RYN), and Plum Creek (PCL). To spread your risk, you can buy the big U.S. names through an exchange traded fund (or ETF) with the symbol WOOD. You can get much broader international exposure through the Guggenheim timber ETF (symbol: CUT).

Crux: There are many good points to timberland investing. Any negative ones?

Sjuggerud: When you compare the built-in yield of timberland to any other asset class out there, timberland wins hands-down.

The only problem is timeframe – you can sell a stock or bond immediately, but you can't get rid of acres of timber like that. It's illiquid. You've got to hold it for some time to maximize its value – the ideal timeframe is infinity. It's definitely not for traders... it's for long-term thinking investors.

And keep in mind... like all investments, you have to make sure you buy timberland at a reasonable price.

Crux: Thanks Steve.

Sjuggerud: You're welcome.

Financing Your Timberland Investment: UPDATE, February 2012

I just spoke with a representative of Alabama Farm Credit.  He stated interest rates are excellent and are as low as he has ever seen.  He went on to say that if anyone has ever seriously considered purchasing rural property, now is the time.  They have several rate options for qualified buyers less than 5%.

Financing Your Timberland Investment

Many people are aware that timberland has become a good and stable investment, especially given the recent performance of the stock market.  But, how do you pay for it?  Most people, like myself, do not have the cash.  As noted in the attached article, http://finance.yahoo.com/news/Rate-on-30year-mortgage-falls-apf-1324230167.html?x=0&sec=topStories&pos=main&asset&ccode, interest rates for homes are falling.  Does this apply to land loans, more specifically Alabama?  Most of the time, yes.  The trends are similar but it is unusual to get as low of an interest rate for rural property as you can get for a home.  The conventional banks tend to have tougher standards for land loans and usually require a higher down payment.  I’ve talked to a representative of a lending institution and given certain criteria and qualifications, they can lock in an interest rate up to five years for less than five percent and will loan up to 80 percent of the appraised value.   The two institutions that specialize in lending money for rural land in my part of Alabama are Alabama Farm Credit and First South Farm Credit.  

Whether it’s for recreational land, timberland investment, or a combination of the two, these two institutions have money available to lend.

THINNING: a valuable tool when managing your Timberland Investment

When managing a pine plantation, which is a very good timberland investment, thinning is a very important tool to maximize growth and consequently total return on investment.  When thinning, the objective is to remove the inferior trees leaving more room to grow for the higher quality trees.  The remaining trees will have more sunlight and available nutrients.  It increases the vigor on the remaining trees and because they are more healthy, they are more resistance to disease and attacks from pine beetles.  I recently inspected a harvesting operation on a property where I am working with the landowner to insure the thinning is implemented properly.  Please take a look at the following short video clips and photos.

 The photo shown below shows a loading deck where the logging contractor is almost finished in this area.  You see the small piles of tops.  He has pre-staged these tops so he can send them all as one load to the pulpwood mill.  This shows a very efficient use of the resource.

The next photo shown below shows the trees as they are being sorted in the loading deck.  The trees on the left in the foreground will be sold as small pine saw timber.  The trees on the left in the rear will be sold as pine chip-n-saw and the trees and the right will be sold as pulpwood.  A properly managed thin will provide for a healthy forest in the future.  Proper separation and  marketing of the various products will provide for maximum revenue to the landowner.

Please visit my Consultant Forester website for more information.

Managing pine beetle risk when investing in land

For years I’ve been working with people in Alabama with their forest land, whether as a forestry consultant or as a Realtor helping with a purchase.  Frequently, I’m asked about pine beetles and its associated risk and how that risk should influence management decisions.   I could write a book on the amount of misinformation I’ve heard.  When looking at land for sale, I’ve seen the pine beetle risk influence buyer’s decision.  I’ve also had landowners cut their timber and then refuse to spend the money to replant their land, citing pine beetle risk.  Worse, I’ve seen unethical wood buyers use the scare of a pine beetle infestation, whether real or not, to convince the owner to sell their timber, many times at less than market value.   So, are pine beetles a significant risk?  They are a risk, but that risk can be managed.  I use the following analogy when asked about the risk: If you bought 100 head of cattle as an investment, would you put them out to pasture and not check on them?  The same thing applies with a pine forest.  Periodic inspections combined with a little knowledge regarding what you are looking for, can prevent a large area of lost timber.  I’ve attached the link to a Publication by the Mississippi State Extension Service.  It explains how to identify a beetle attack and how to manage.  It also gives a link to more detailed information.

http://www.mfc.ms.gov/pdf/Pubs/Pine_Bark_Beetles_2448.pdf\

Timberland after the Recession?

How Timberland has as an asset performed through the recession and what is the outlook for the future?

Since timberland started to sell to investors in the late 80’s and early 90’s, it’s performance as an asset class has gone up and done due to many factors, such as supply, global influences, changes in the economy, etc..  One of the most negative factors on timberland is the decline in saw timber prices, due primarily to the decline in housing starts.  So, I started looking around for economic opinions as to when a recovery is expected, attending seminars and reading various articles.  The consensus seems to be that the recovery will be modest over the next few years.  As the population grows there will be a demand for more housing, whether it is for multifamily or single family dwellings.  Given this increase, saw timber values are expected to gradually increase.  No one is expecting a return of the housing boom as we experienced in the middle of the last decade or the high stumpage values that we enjoyed around 2000.  A long term trend either up or down is not expected for pulpwood.  There is a lot of talk in the industry about using wood for fuel on a significant level, such as power plants or exports.  If this occurs, it will help with the demand and price for biomass, whether it’s a clean or dirty chip.  However, I believe this is still something on the distant horizon.  To develop the technology and then build the infrastructure to support it will take time. 

What am I seeing in today’s Marketplace?

I am constantly checking website activity and talking with my peers to get a feeling on the markets.  I’m seeing activity: webpage clicks, emails, phone calls at a level almost as high as when the markets were strong.  However, there is a significant decrease in actual purchases.  People are being very careful and are shopping price, which is the proper thing to do in this economy.  One item of misinformation that I’m hearing is the inability to borrow money.  The conventional banks still have restrictive terms, such as requiring 40% down; however, the land banks that specialize in loaning money to buy land are actively pursuing loans and have good terms.

So what should an Investor do when considering investing in Timberland?

The simple answer is “Do your homework.”  The expected returns for timberlands may not be as high as they were five and ten years ago, but there is still a decent return to be made.  My first advice is to accumulate knowledge.  You can do this in one of two ways: (1) you can go about the process of educating yourself, or (2) you can hire an expert.  I’ve seen both methods work successfully.  I’ve met a few landowners who were very knowledgeable about investing in timberland and set out a plan and implemented it accordingly.  I also know landowners who are successful and they know relatively little about investing in land.  They hire and trust an expert.  Sadly, I’ve seen many landowners who rushed into decisions without doing their due diligence and make mistakes that can be long term, primarily an ill advised timber sale.   One problem with timber is revenue is generated obviously from selling timber and the sales are a long time apart because of the time it takes to grow trees.  An ill advised or poor timed timber sale may take a generation to recover.  In summary, timberland still remains a strong asset class.  Return may not be as high as past but none the less it still has positive attributes such as: an inflation hedge and stable returns providing the investor does his homework accordingly. 

Click here to see timberland for sale in Alabama.
To learn more about managing timberland and the services offered by a Consultant Forester, click here.

Why Invest in Timberland?

I’m sure this is a question you see as you search the many different real estate website that specialize in selling rural property.  I came across an article by Robert Stammers, “Timber Investments Cut Down Portfolio Risk.” http://www.investopedia.com/articles/stocks/08/timber-investment.asp

This article goes into enough specific detail to understand the dynamics of investing in timberland while at the same time is easy to read and understand.  I’ll give a brief summary.

Years ago the large pulp mills and forest product manufacturing facilities had concerns about their long term fiber supply and consequently acquired large amounts of land in order to grow timber to insure their needs were met.  Since about 1990 many of these companies have sold their timberlands to investment and management companies.  These new owners have the expertise to maximize production.  Often the seller will enter into supply agreement with the new owners which gives them a buffer against volatile prices.  Who are these new owners? Pension funds, private equity investments in limited partnerships and insurance companies have all invested in timberland.  I am seeing individuals buy timberland with their individual pension plans as a hedge to the volatile stock market.  One of the largest buyers of timberland has been Timber Investment Management Organizations (TIMO’s).  

Investors must wait for the timber to mature, much like a zero-coupon bond.  They can stabilize cash flow by investing in timber stands with varying ages of maturity.  Also, with the different timber products, such as: pulpwood, poles, saw timber, and chip-n-saw, managers can shift production to avoid sharp declines in the prices of particular products and also take advantage of price increases.  Why has timberland caught the favor of investors?  Over the long term the demand for timber is increasing.  Timber is an inflation hedge, i.e. timber traditionally grows on the stump at a rate higher than inflation.  Timber has a low correlation in comparison to other asset classes. 

Investors should be aware of the risks.  Weather and fire can damage and reduce inventory.  Also, the decline is markets such as housing can have a negative impact building products.

In summary, the justification for investing in timberland is becoming more and more compelling.  As well as being a hedge, the returns have been equal to or better than other asset classes.