In July 2012, Mike Duffy at Iowa State University posted an article “Comparing the stock market and Iowa land values: A question of timing” on their Ag Decision Maker website. We’ve repeated what he did, using Oklahoma data for pastureland and non-irrigated cropland. The U.S. Department of Agriculture regularly reports agricultural land values and associated cash rents for Oklahoma. Oklahoma farmland values have shown annual increases every year since 1997 for both cropland and pastureland. Non-irrigated cropland values have shown gains for 33 of the past 43 years. In similar fashion, pastureland values have increased every year but 9 times during the same period since 1970. Values in 2012 for both categories reached record territory in nominal terms and have more than doubled since 2000. However, in inflation-adjusted terms, the 2012 cropland value is not a record and is still 30% below the peak set back in 1980. In contrast, pasture prices have kept pace with the rate of inflation and are roughly equal to 1980 values.
The composite value of the stock market, as measured by the Standard & Poor’s 500 Index (S&P) average, has recovered from the disastrous 2008 year. Even though the S&P lost 34 percent of its value between 2000 and 2008, its overall record has been impressive since 1970. Stock values rose from 90.05 in 1970 to a June 2012 close of 1,323.48, a 13-fold increase despite the late-2000s recession.
The returns to land or stock shares are composed of two parts. First is a capital gain or increase in value. (In some years, a capital loss occurs if values decrease.) The second component is yearly returns. Yearly returns are affected by both revenue and costs associated with the property.
Land ownership has annual costs not associated with stocks. For example, property taxes must be paid and should be included in a comparison of owning stocks or farmland. In addition, if farmland is held as an investment and not by an owner-operator, a professional farm manager may be involved and the fee for this service should be considered. Some maintenance and insurance with farmland not associated with owning stocks is also necessary.
The data used for this analysis comes from various sources. The Oklahoma non-irrigated cropland and pastureland values come from the USDA/National Agricultural Statistics Service (NASS). Land tax estimates per acre were calculated using data from the Farm Credit Associations of Oklahoma.
The S&P averages and yearly dividends from 1970 to 2012 were obtained from the website of Robert J. Shiller at Yale University. The value used is the December close of each year with the exception for 2012 being the month of June.
A few assumptions are necessary in the study. For the first analysis summarized in Figure 1, it is assumed $1,000 is invested in each alternative at the end of the first year (1970). The initial amount of land or stock purchased was based on the 1970 value. For example, the average dryland cropland value in Oklahoma was $257 per acre in 1970. Thus, 3.89 acres could have been purchased for $1000.
A second assumption is that all net land rent or dividend earnings in any year will be reinvested in the land or the stock market. This will increase the number of units held. To continue the example above, average cropland rent in 1971 was $9.50 per acre. Average taxes in 1971 were $0.58 per acre. Using a management fee equal to 7 percent of gross rent and a 6 percent of gross rent charge for insurance and maintenance, the net return per acre in 1971 was $7.68.
The net rent in 1971 represents a 2.91 percent return since the average cropland value had increased to $264 per acre. For the $1,000 investment, this would be a return of $29.10. If the entire return were invested to purchase additional land, .11 acres could have been added to the portfolio. Thus, at the end of 1971, the investor would have 4 acres worth $1,055. The process is repeated each year.
Considerable annual variation was noted in the investments examined. Non-irrigated cropland values increased an average of 4.5 percent with a standard deviation of 9.8 percent. The annual percentage change ranged from a negative 16.9 percent to a positive 27.8 percent. Pastureland values grew an average of 5.8 percent annually with a standard deviation of 12.7 percent. The annual percentage change ranged from a negative 18.3 percent to a positive 48.9 percent. The Standard & Poor’s 500 Index yearly closing value showed an average percentage change of 8.1 percent with a standard deviation of 16.9 percent. The yearly percentage change in the S&P ranged from a negative 40.7 percent to a positive 35.0 percent. In summary, the stock market as reflected in the S&P offered a higher overall percentage gain than agricultural land, but also demonstrated more volatility as shown by its standard deviation.
The annual rate of return for non-irrigated cropland using cash rental rates as a proxy for income and subtracting taxes, management fees, insurance and maintenance has averaged 3.5 percent since 1970. The standard deviation of the yearly return to land has been 0.8 percent. The maximum yearly return was 4.7 percent while the low was 1.7 percent. For pastureland, the annual return averaged 2.0 percent with a standard deviation of 0.7 percent. The maximum annual return was 2.8 percent while the low was 0.7 percent. The S&P yearly dividend averaged 3.0 percent of the S&P closing level. The standard deviation was 1.3 percent, the maximum yearly return was 5.4 percent, and the lowest yearly return was 1.2 percent.
Figure 1 shows the return to $1,000 invested in 1970 for all three investments. At that time, $1,000 would have purchased 3.89 acres of cropland, 7.08 acres of pastureland or 11.1 shares of the S&P. Using the assumptions above, an investor at mid-year 2012 would have 15.31 cropland acres worth $21,285, 15.62 pasture acres worth $18,078 or 36.49 shares of the Standard & Poor’s worth approximately $49,270. In other words, the value in either farmland category would be less than half the value of the S&P investment. Note the dramatic swings in the S&P since 1999 in contrast to the steady climb in farmland values.
However, timing is everything. A starting point other than 1970 would lead to different results. The initial purchase date and subsequent purchases based on reinvestment of returns are important and realistically, farmland does not lend itself readily to reinvestments similar to stocks.
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Figure 2 shows a comparison of the returns through June 2012 based on alternative years for the initial investment using the same methodology shown in Figure 1 (buy, hold or reinvest as income allows). It represents returns to Oklahoma farmland as a percent of the returns to the S&P. Values in excess of 100 percent correspond to farmland with a higher value and conversely, if the value is below 100 percent, then the S&P would have a higher value for the initial $1000 investment made in that year. For example, an initial investment in farmland beginning in 1970 as shown in Figure 1 would have returned less than half of the stock market.
Figure 2 demonstrates that the timing of the investment makes all the difference in which appears to be a better investment. A decision to invest in agricultural real estate would have yielded a higher value in just about every year from 1991 through 2011 (the late-2000s recession being an exception). Looking back, agricultural land values in Oklahoma began their rapid rise in mid-1970s and peaked in 1981. After years of devaluation during the 1980s, land values began a slow but steady rise in the 1990s. Oklahoma farmland and the S&P have offered roughly equal returns on their investment since 2009. Given the recent rapid increase in farmland values, this result may not be intuitive. But remember that despite healthy farmland value increases, farmland rents in Oklahoma have not kept pace resulting in declining rates of return. At the same time, investors buying into the stock market have seen substantial appreciation since the late 2000’s recession with very competitive returns. It will be interesting to see what this chart will look like in 20 years relative to recent economic conditions.
So the question remains. Is Oklahoma farmland or the stock market a better investment? It is a complicated question and one for which there is no one right answer. As mentioned previously, the timing of the initial purchase, subsequent purchases, and reinvestments of returns influence the returns to either stock or farmland investments. Several assumptions were made in this study. Real estate taxes, a management fee, insurance and maintenance were subtracted from the return to land (represented by cash rent) and were the only ownership costs assumed for land. Other costs vary with individual circumstances. This study also assumed no transaction costs associated with either the purchase of land or the purchase of stocks. Finally, this study assumed average performance for land values, rents and the stock market. Deviations from average performance would produce different results.
The majority of land is purchased by existing farmers. They purchase the land for a variety of reasons including factors beyond traditional investment theory. Farmland has been a competitive investment compared to the stock market over the past 20 years (Figure 2).
What will happen to the value of farmland over the next several years is difficult to predict. Agricultural land represents an income-producing asset and its value is essentially driven by current and expected earnings. Agricultural land values have risen more quickly than rents in recent years. In the short term, an increase in both are likely to continue given a strong cattle economy, high grain prices, low interest rates, and continued nonfarm investor interest. In the longer term however, changing market conditions, government policies and/or interest rate increases could adversely impact values and earnings.
The performance of the stock market over the next several years is also not clear. The S&P 500 used as a benchmark includes companies with significant global investments and earnings. Thus, economic conditions throughout the world matter.
Farmland and the stock market are different types of investments and assets. This simple comparison was based strictly on averages. Oklahoma farmland has outperformed the S&P in some periods since 1970, but not all years. Yes, timing is everything.
Roger Sahs and Damona Doye , OSU Assistant Extension Specialist, and Regents Professor and Extension Economist
Ag Decision Maker, Iowa State University, http://www.extension.iastate.edu/agdm
Dr. Robert Shiller Stock Market Data, http://www.econ.yale.edu/~shiller/data.htm
OSU Agricultural Land Value Website: www.agecon.okstate.edu/oklandvalues
USDA Land Values 2012 Summary, http://usda.mannlib.cornell.edu/MannUsda/viewDocumentInfo.do?documentID=1446