Is ag suffering from inflated expectations?

The absence of inflation has added complexity to an already challenging fundraising environment. But there's more to the asset class than inflation protection.

Agriculture’s reputation as an effective long-term hedge against inflation is a key element of its appeal to institutional investors.

However, managers attempting to position ag as a tool for LPs preparing for a rise in goods and services prices have faced stiff competition from more developed alternatives like infrastructure and energy.

Even more challenging, though, has been the continued absence of the inflation many predicted would follow the unconventional monetary policies pursued by central banks after the Global Financial Crisis.

As economists debate whether traditional measurements still accurately reflect the purchasing power of money, even investment professionals with a direct interest in the question find it difficult to say which way inflation is trending.

That uncertainty has added complexity to an already challenging fundraising environment for ag funds. It could also influence the way managers execute on ambitious growth plans.

Inflation plays a key role in guiding the nascent agriculture investment program at CalSTRS, the $227.8 billion pension that serves California’s teachers. Paul Shantic, who directs the $5.6 billion Inflation Sensitive portfolio housing CalSTRS’ ag investments, tells Agri Investor his remit is to assemble investments focused on preparing for “what can go wrong.”

“Inflation has definitely become one of those things that people don’t worry about anymore,” Shantic says. “The fact that people are not as concerned about that anymore bothers me a little bit because I went through – as a number of investors have – the late 70s and early 80s, when inflation raged out of control.”

In addition to ag, the Inflation Sensitive portfolio also contains infrastructure and energy, among others. It allows CalSTRS to adjust the risk and direction of the portfolio in response to interest rates and the expected pace of inflation, Shantic says. While some Inflation Sensitive investments, such as commodities, aim to capture short-term price changes, others, like infrastructure, are designed to ensure cashflows over the longer term, he explains.

A build-up in inflationary pressures, especially in the labor market, has been noted by investors over the past 12-18 months, according to Ryan Sullivan, co-head of real assets at Aberdeen Standard Investments.

But the lack of actual inflation in the broader economy has made it difficult for LPs to conclude now is the time to prepare for a future spike in prices.

“It’s still is a bit of unanswered question in the market,” says Sullivan. “It’s just hard when you haven’t had an inflation spike of note. People have said, ‘Hey, how does this asset class fit into my portfolio when one of the key benefits hasn’t turned up in the market over the last number of years?’”

While LPs have become more comfortable investing in energy and infrastructure, sentiment within the less mature market for farmland funds has recently been shaped by headlines about tariffs and trade wars.

“People are making decisions on the different sub-sectors, less about the inflation-hedging benefits and more about what is going on in those underlying macro trends,” says Sullivan.

Those underlying “macro trends” – hard as they are to fathom in a world of rapid technological and social change – should encourage investors think about the long term in a broader context.

While many LPs have internalized a connection between agriculture and inflation, most defer to consultants for details on how their interest in the asset class is shaped by the economy’s broader trends. Asked about inflation, consultants, in turn, defer to economists, who are themselves divided as to why it has remained elusive.

Given food’s fundamental role in society, ag’s long-term value preservation should be key for any investor looking to prepare for “what can go wrong,” to quote Shantic. In that sense, waiting for traditional metrics to produce statistical evidence of inflation to confirm the asset class’s long-term potential seems short-sighted.

Events other than a spike in inflation have the potential to produce increased prices for agricultural commodities or underlying farmland owned by institutions.

It might take years for economists to create metrics better matched to the complexity of the modern economy. In the meantime, savvy managers should have plenty of opportunity to demonstrate the other ways in which ag funds offer protection from volatility.

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