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UBS AgriVest talks risk: ‘Out west, it’s the water’

James McCandless, managing director of UBS AgriVest, talks about current risks in the US farmland market and what the firm focuses on in its due diligence.

This week, we catch up with UBS AgriVest managing director James McCandless, whose firm manages $1.2 billion in buy-and-lease US farmland assets, to find out how he works to mitigate risk, especially water risk, and pricing.

What is your allocation, and how does that change by state?

We generally try to model our allocation portfolios to reflect the investment universe here in the US, [which] based on production value is about 60 percent commodity crops, 20 percent vegetable and 20 percent permanent crops. We make tactical over-weighs or under-weighs on that in the 25 states we invest in.

We are conservative, and have a core diversified, long horizon strategy. At the moment we have $200-$250 million of dry powder; we are patient investors.

How do you see the US farmland market at the moment?

The independent appraisals we receive each quarter indicate that, in some areas like the Corn Belt, farmers are not as active in the farmland markets as they were a few years back.

It appears that reduced buying activity and lower price bids have resulted in a slippage in farmland prices in the Midwest. For example, the NCREIF Farmland Index shows a modest decline of about 3 percent in the past year for the Corn Belt region.

Where are the biggest risks when it comes to buying farmland now?

Out west, it’s the water. We do a lot of due diligence for irrigation. Soil and pricing is also something we check carefully.

A risk with permanent crops is [the possibility of] over-planting of a crop type that could result in oversupply and lower product prices.

Another risk with commodity crops is buying into a market that is currently overpriced, relative to the historical average cap rates. A reversion to the mean [for these crops] could occur sooner rather than later.

How do you mitigate the risks that water shortages pose?

[If the land has water pumped] from underground, we take measurements on how deep the water is, and how high you have to lift it. We generally don’t buy property that has a lift greater than a specified amount. Operation of those pumps – electric, diesel or natural gas – weighs into operating costs and gets capitalised into the value of the land.

If the water comes through a canal or irrigation district we take a hard look at what the priority is for the irrigation district is and whether [the water supply] can be interrupted. We have seen a number of irrigation districts have their sources limited to the point where they are not getting enough water to keep the trees alive.

How do institutional investors impact the US farmland market?

Institutional investors are a really small part of the market in the US. You might hear of some high-profile transactions now and then, but [the majority] of sales and purchases are done by farmers.

If you look the National Council of Real Estate Investment Fiduciaries Farmland Index, the total market for institutional holdings at the end of 2015 was $6.7 billion and it’s taken since 1991 to get to that level. The total value of farmland in the 25 states we target is about $1.6 trillion.

How do you make sure you are paying a fair price for farmland?

Each of our properties is appraised independently every calendar quarter, [meaning] we are in touch with what is going on in these communities where we are invested and might [also] be looking for a new property.