Timberland Stocks: Knock on Wood
by Louis Basenese, Small Cap and Special Situations Expert
Thursday, March 12, 2010: Issue #1214
If you’re not following the money into timberland:
- Timberland has outperformed the S&P 500 since 1910.
- In recent history, timber has outperformed the market significantly. Since 1987, the NCREIF Timberland Index climbed by an average of 15% per year, compared to roughly 11% for the S&P 500.
Such strong outperformance boils down to one factor – biology.
Biology accounts for 65% to 75% of timberland’s performance. Nothing can stop it from adding to the value of timberland investments. Come rain or shine, trees grow. And so does their value.
Not even natural disasters can undermine timberland’s value, because companies can still sell damaged timber. For example, after Mount St. Helens erupted, nearly 80% of the scorched timber was still suitable for sale.
Two More Compelling Reasons to Own Timberland
~ Inflation: Timber is a natural hedge here. Real prices for timberland have risen steadily for more than 100 years.
Even more attractive: During the last bout of runaway inflation (1973-1981), timberland was one of the top-performing hedges, increasing by an average of 22% per year.
~ Portfolio Diversification: Timberland sports a very low correlation with most asset classes – less than 0.1. Accordingly, adding timber to a well-diversified portfolio enhances the return potential, while reducing risk.
History proves it…
Timberland ranks as the only asset class to deliver positive performance in four out of the five major market collapses – including 2008.
With so many positive attributes, investors should be piling into timberland. But they aren’t.
The Drawbacks of U.S. Timberland Investments
Access to high-quality, pure timberland investments is scarce.
Roughly 71% of timberland is privately owned. And most active investments are facilitated through TIMOs (Timberland Investment Management Organizations), which carry a stiff $5 million entry fee.
On the publicly traded side, REITs and timberland companies like Plum Creek Timber (NYSE: PCL), Potlatch (NYSE: PCH), Weyerhaeuser (NYSE: WY) and Rayonier (NYSE: RYN) are imperfect proxies – despite conventional wisdom that says otherwise.
- Most use significant amounts of leverage. This exposes you to credit and interest rate risk, which can cut into returns. The classic example of the performance disconnect is Weyerhaeuser. While timber prices climbed by an average of 10% over the last 10 years, its stock dropped by an average of 0.1% each year.
- Other assets and business operations are often lumped into the mix, further diluting your exposure to timberland. Take Rayonier, for example. It runs a high-performance fiber division, which currently accounts for 50% of its operating income.
Of course, another contributing factor to the lack of timberland’s popularity is that most investors are impatient*.
Timberland is akin to a zero-coupon bond. You have to wait for the investment to “mature” before you get paid. And since commercially viable trees grow at different rates in different places, maturity can take anywhere from 30 years domestically to 65 years in Canada and Northern Europe.
That’s an eternity for most investors, given that studies show most only hold investments for an average of six to seven months.
I don’t possess the Biblical patience of Job to wait for timberland to mature either.
The Argentina Solution
The Argentina lumber industry sports several benefits..
- Cheaper: In some cases, the purchase price of timberland in Argentina can be one-hundredth the typical cost of a TIMO investment. That would allow you to “ladder” timberland investments over time, thereby producing steady, reliable returns on a more frequent basis – instead of waiting for a massive lump sum payout once every 30 to 65 years.
- Currency Diversification: By investing directly in timberland overseas, you also get the added benefit of currency diversification and the potential for tax-free growth, depending on the country and your individual tax situation. In Argentina, for instance, the appraised growth of timber is exempt from income taxes. And you also get special land and asset tax exemptions.
There are other international timberland opportunities that can reduce the traditional maturity period. Two worth considering are New Zealand and Chile, as both countries boast some of the fastest timberland growth rates.
In the end, finding such opportunities might require an extra dose of due diligence.