Inflation and interest rate malaise
Seven rate hikes in 2022 — the most since 2005 — and two thus far in 2023 seem to be slowly stemming the inflation tide. Yet, while the annual inflation rate has dropped to 5.0%, this is still nearly double what we saw in March 2021. As a result, the Fed’s efforts to fight inflation could mean one more rate hike in 2023, forecasters say.
It’s crucial to note, though, that the causes of this current inflationary spiral are varied and complex. They include (but are not limited to) the flood of federal pandemic stimulus funds into the economy, global supply chain disruptions, economic tremors in China, Russia’s war on Ukraine and its effects on worldwide oil and wheat supplies, and a general rise in wages.
Stock market sentiment
Many stocks traded on both the NYSE and NASDAQ got pummelled in 2022, and market sentiment hasn’t rebounded much since. Aside from a seemingly non-stop run of Fed interest rate hikes, investors were also spooked by geopolitical unrest — led by Russia’s invasion of Ukraine in March 2022 and worsening relations with China. The S&P 500 fell 21% in the first half of the year, its worst start since 1970.
There is evidence, though, that markets are rebounding, even if volatility remains. So far in 2023, the S&P 500 is up roughly 8%, while the Dow Jones Industrial Average has climbed at a more modest level, close to 2%.
Bonds: The return of modest returns — if inflation cools off
Bonds were savaged between 2020 and 2022, producing an average annual return of -2.76%. (In 2022 alone, bonds saw negative double-digit returns.) But they’ve made a stronger showing in 2023 as inflation has begun to level off. Bonds are becoming more attractive as a 10 Year Treasury currently offers a yield of roughly 3.5%.
The opposite is also true: as inflation cools, and interest rates settle, bond yields are likely to become less attractive. Over the last six decades, 10-year Treasurys hit a peak yield of 15% in 1981. But ever since, bonds have experienced a steady decline. In fact, the current yield sits just below what it was in 1962.
Bonds will likely always produce a yield over time but, especially today, returns are failing to keep pace with inflation.
Real estate: Really mixed results
Real estate offered a two-year average annual return of 8.06% between 2020 and 2022, on par with the 30-year return of 8.39%.
However, not every sector of real estate has been immune to the challenges felt in other investment sectors. Blackstone — the largest owner of commercial real estate in the world — saw a major earnings decline as the demand for commercial real estate slumped in 2022. Meanwhile, real estate giant Brookfield Corporation recently defaulted on $784 million of loans tied to two office towers in Los Angeles.
“Real estate as an asset class was one of the first to be repriced lower in reaction to higher interest rates,” noted Tom Hainlin, a national investment strategist at U.S. Bank, in April 2023.
U.S. real estate investment trusts (REITs) haven’t fared nearly as well, bringing in a two-year average annual return of -0.46%.
Depending on how REITs recover, historical returns point to much healthier numbers. Between 1992 and 2022, the annualized average return was 9.58%, second only to farmland among six major asset classes.
Private equity and VC: Tough times tempered by some optimism
Forces that worked against publicly traded companies are coming to private equity in 2023, experts say.
Cambridge Associates predicts “stormy seas” this year: “Weak economic activity, difficult political environments and tight credit markets will pressure current valuations … While public equities quickly reflected these concerns in 2022, private markets reacted more slowly.”
That said, experts say private equity is simply weathering the same storms as the rest of the investment landscape. One PE bright spot was sustainable investing; according to a March 2023 McKinsey report, “2022 will prove to be the best year yet for sustainable-focused fundraising, with $24 billion raised through the first half of the year.”
On the VC side, an analysis by Bain & Co. concludes that startups fell victim to continuous market instability, geopolitical turmoil and looming fears of a recession. As VCs sit on the sidelines, startups have experienced “a particularly severe funding drought,” with a 12% drop in funds raised between Q3 and Q4 2022. Still, the cooling of interest rate hikes and inflation could help turn things around.
Increasingly popular alternatives: Farmland
In today’s uncertain economy, investors across the board are focusing on resilient portfolio construction, seeking alternative assets that are less susceptible to — or even unaffected by — stiff market headwinds.
Real assets, such as farmland, infrastructure and timber, represent one class of alternatives that investors have begun to look at to help diversify their portfolio and preserve their capital. Farmland in specific is known for providing historically stable, risk-adjusted returns amid challenging, high-interest-rate environments.
Because of its tendency to move independently from the markets, farmland has a historically low correlation with conventional assets, amplifying the asset’s role in portfolio stabilization and diversification.
During the tumultuous 2020-2022 period, farmland experienced a standard deviation of just 3.39% — lower than real estate, stocks, bonds or gold, according to “Farmland: A Historically Stable Asset During Uncertain Times,” a study by investment manager FarmTogether.
Data from the National Council of Real Estate Investment Fiduciaries (NCREIF) put the standard deviation of its Real Estate Index at 8.39% during that time. The S&P 500 topped 24.60%, more than 7x higher than that of farmland.
While farmland did post a smaller-than-average annual return between 2020 and 2022 — 6.82% — U.S. cropland values did not drop in value, further demonstrating the asset’s resiliency. Today, average cropland values currently sit at a record of $5,050 per acre, up 14% from 2021.
Farmland quickly rebounded, rising 9.60% in 2022 — while gold, U.S. bonds, the S&P 500, U.S. REITs, the NASDAQ and Bitcoin all finished in negative territory.
This performance extends far beyond the last few years; farmland has demonstrated strong absolute returns over the past several decades. It has averaged total annual returns (income plus price appreciation) of 10.71% over 30 years, from 1992 to 2022, experiencing net positive growth each year.
Allocations into farmland
For those interested in diversifying their portfolios with farmland, farmland investment manager FarmTogether might be worth exploring. Since its founding in 2017, the firm has grown to more than $170 million in assets under management.
Currently, FarmTogether has two live deals on its platform:
Cardinal Pistachio Orchard is a turnkey, high-production orchard with excellent water fundamentals: 10.3% target net internal rate of return, 5.1% target net cash yield.
Hidden Oaks Organic Vineyard is a high-cash-flow, turnkey vineyard in an exciting California appellation: 10.2% target net internal rate of return, 5.5% target net cash yield.
For those interested in exploring 1031 Exchange options in farmland, both Cardinal Pistachio Orchard and Hidden Oaks Organic Vineyard are available for consideration through FarmTogether. FarmTogether also offers Sole Ownership Bespoke Offerings and their Sustainable Farmland Fund.
This communication is not intended to be relied upon as advice to investors or potential investors and does not take into account the investment objectives, financial situation, or needs of any investor. All investors should consider such factors and risks in consultation with a professional advisor of their choosing when deciding if an investment is appropriate. Historical data is not indicative of future results and may not reflect fees which may reduce actual returns. Any historical information is illustrative in nature and may not represent future results, therefore any investor investing through the FarmTogether platform may experience different returns from examples and projections provided herein.
Data representative from January 1992 through December 2022. Sources: Privately Held U.S. Farmland - NCREIF Farmland Index; Privately Held U.S. Commercial Real Estate - NCREIF Real Estate Index; Stocks - S&P 500; Bonds - Bloomberg Barclays U.S. Aggregate Index; Gold - Federal Reserve Bank of St. Louis Economic Data (FRED). Indexes are unmanaged and not available for direct investment.