The Global Story
The Global Situation
Global demand for food continues to increase, due to population growth, urbanisation and emerging middle classes in developing countries adopting more westernised diets.
The global supply of food is limited.
There are many reasons for the world's food supply shortfall, including limited availability of arable land and water, and the plateau of crop yield growth. These are strong forces - ones that are likely to result in increasing commodity prices, higher farm incomes and increased farm property prices.
A closer look at the supply/demand situation reveals an increase in the consumption of animal protein, reflecting a new middle -class desire for better nutrition, a more sophisticated palate coupled with increased incomes which can afford higher value food products.
Fonterra projections show demand growth in China is going to increase 7% between 2014 and 2020, while the country's supply is expected to only grow 4%. It's a similar story in India, where demand growth is predicted to be 10% and supply growth only 7%.
Alongside all of this, there is the reality that the world has a finite area of farmland and there is increasing competition for its use, including cropping for biofuel production.
Farmland Investment Growth Prospects
In investment terms, farmland growth prospects are largely a function of commodity prices received and crop yield increases. Higher commodity prices and yields generally mean higher operating profits and because farmland is valued by capitalising earnings (i.e. by dividing growth adjusted earnings by the cost of capital), higher farmland prices. Accordingly, food price and crop yield prospects provide a good indicator of investment growth prospects for farmland.
World market prices for major food commodities such as grains, vegetable oils and milk rose sharply to historic highs in 2008. Prices reduced substantially from these levels during the global financial crisis in 2008, recovered in 2010 and went on to set new record highs in 2011.
A number of demand and supply factors have contributed to the rise in food commodity prices in recent years and the ongoing influence of these factors, discussed below, suggest that the current high prices will prevail for the foreseeable future, albeit with volatility.
The global population has more than doubled since 1960, growing from 3.0 billion to an estimated 6.9 billion by 2010. United Nations’ estimates indicate that while the pace of global population growth will slow to a CAGR of 0.6% between 2010 and 2050, this growth still represents an expansion of some 2.2 billion people, a number roughly equivalent to the planet’s entire population in 1950.
Global Population Growth & Forecast 1950-2050
As a result of population growth, a hectare of farmland which in the mid 1980s fed one person, will be required to feed 1.8 people by 2050.
Calories Required Per Hectare of Agricultural Land vs. Land Availability Extrapolated to 2050 1961 – 2050
Increased Consumption of Animal Proteins
Compounding the growth in demand for food as a result of a rising population is a global increase in consumption of animal proteins. The majority of grain crops grown in developed, net exporting markets such as the US are used in animal feed. It takes up to 7 kilos of grain feed to produce one kilo of beef, and higher consumption of meats and animal proteins therefore has a multiplier effect on demand for grain and adds to demand side pressures.
Global consumption of animal proteins (including dairy products such as milk) has grown materially. Increasing per capita protein consumption generally occurs later in the economic development cycle as economies become more affluent and middle classes evolve. For this reason, higher protein consumption rates have been most apparent in the last 30-40 years and have occurred mostly in more developed countries where incomes have risen to a critical level to support a high protein diet.
World per capita animal protein consumption rates have grown by 21% since 1961, though world protein consumption levels of 75g per person per day are still materially below developed world levels of over 100g per person per day. The proportion of the global economy moving into a ‘more developed’ status is expected to increase in the period 2010-2050.Global Per Capita Protein Consumption 1961-2007 – Grams Per Person Per Day
Demand for Biofuel Feedstock
Demand for crops for use as feedstock for ethanol and biodiesel production provides additional competition for both food and farmland. Although the biofuels sector is in its infancy globally, fundamental fuel demand, mandated use legislation in major markets such as the US and Europe, and associated subsidies, indicate continued growth in feedstock demand.
On a global scale, the USDA estimates that around 3-4% of arable land is devoted to biofuel production in the six largest biofuel feedstock producing nations. 24% of US corn production is used to produce ethanol for use by US fuel blenders. Significant investment in biodiesel feedstocks in Asia and Europe is also evident. Commentators believe that the marginal additional demand for biofuel feed stocks in a constrained supply environment is a key driver of food prices.Component of US Corn Diverted for Ethanol Production 1990-2007 – Bn Bushels
Competition for a Finite Area of Farmland
Increasingly, alternative land uses are competing with food for finite land resources, impacting on both the value of remaining farmland as well as food prices. Urbanisation is also depleting agricultural land availability, particularly in more densely populated regions such as China’s eastern seaboard.
Historically, growth in global agricultural production has come from a relatively stable area of farmland. Over the period from 1961 to 2007 the area of farmed agricultural land only grew by 10.7%, the area in pasture grew by 9.4% and the area of arable land grew by 13.3%.Global Agricultural Area Growth 1961-2007 - Hectares
It is anticipated that farmland availability in the near future will be further constrained by the impact of climate change, including desertification and water shortages, particularly in rapidly developing environments where water usage increases as a result of urbanisation. Farmland area growth has plateaued and total pasture availability contracted by a CAGR of -0.1% between 1997-2007, indicating attrition to other uses is underway.
Crop Yield Growth is slowing
Historically, growth in food supply to satisfy the globally expanding population and its growing diet has been achieved primarily through productivity gains, delivered through advances in land management practices, seed and varietal development, advances in pesticides and fertilisers and increased farm mechanisation.Global Growth in Cereal Production vs. Yield Productivity Gains 1961-2007
Productivity gains delivered (as measured in tonnes yielded per hectare) have been dramatic. However, the pace of yield growth has slowed. Yield expansion in key crop groups such as cereals and rice over the past 10 years has been below population and demand growth, and is currently averaging around 1-2% growth p.a. Slowing yield expansion is a significant concern for food production volumes globally.
US Farmland as an indicator of Farmland Investment Performance
The US is a useful indicator of the performance of farmland relative to listed equities, because of its large size and the contribution it makes to global food production. The US accounts for over 39% of global corn production, 39% of global soybean production and was forecast to produce 9% of the world’s wheat production in 2009.
Total returns from US farmland (operating yield plus capital gain) have exceeded total returns from US listed equities over the past decade.
US farmland returns have come from increases in both operating profits and capital gain, as shown in the chart below which also illustrates the correlation between farm earnings and farm values. US farmland has performed well because productivity increases have meant that the income produced from it has continued to increase over time, even though the value of agricultural commodities fell in real terms until 2001.
US land prices have increased appreciably since the 1960s and have increased by a CAGR of 4.1% since 1991. This increase in value is linked to growth in per hectare operating profits which have risen as a result of increases in per hectare yields and commodity prices and cost efficiencies related to increasing farm scale. Government subsidies have also impacted farm incomes.
Across all US owner operated farmland, operating yields have averaged 5.2% p.a. over the past 20 years. Over a shorter timeframe, the US NCREIF All Farmland Index has generated an average annual operating income yield of 7.24% for owner operators since 2000.Total US Farm Income vs. Total US Farm Assets, US$Bn