Within the evolution of the timberland investment sector, much attention has been paid to the shift from co-mingled funds toward separate account portfolios by large institutional investors as some smaller pension investors exit the asset class for reasons of scale and liquidity. Attracting less attention are investors at the other end of the spectrum such as family offices, high net worth individuals, and investor consortiums that often have unique investment objectives and criteria. As many of these small and specialized investors do not have the investment capital to support a globally diversified timber investment portfolio, is timberland still an attractive investment? And is there a preferred avenue for investment? The answers are; yes, and direct investment may remain the best way to invest in timberland for such investors.
Timberland Investment Suitability
The attributes of timberland ownership would seem to be aligned with the typical investment objectives of family offices and high net worth individuals. Timberland is a real asset, and can be a long-term hedge against inflation if the investment includes a land component (as opposed to an investment in standing timber alone). Timberland tends to hold its value in local currency over time (capital preservation), and has lower valuation volatility than many real estate assets. Timberland can provide a consistent cash flow if the timber assets acquired support a wide distribution of age classes, and depending on the location of the timberland asset, smaller holdings can benefit from property management economies of scale if they are within a property management umbrella that might also include industrial or larger institutional timberland properties. Finally, investments can sometimes be customized to provide complementary benefits such as hunting and recreation rights, species or ecosystem preservation, or carbon storage. Given these attributes, it is little wonder that individuals and families have a long tradition of holding timberland as an investment vehicle in many regions of the world.
What about returns? Analysis done by ForestEdge LLC found that between 1995 and 2016, US timberland investments, whether in REITS or in NCRIEF reporting Timber Investment Management Organization (TIMO) managed accounts, would have provided, on average, a nominal return of between 6.5% to 7.0% per year. Returns varied significantly between individual REITS as did the volatility of returns, but the combined return of the 3 largest REITS (Weyerhaeuser, Rayonier and Potlatch), was similar in both total nominal return, and volatility to the NCRIEF Timberland Index. This work also analyzed delivered timber prices in both the US South and US Pacific Northwest over a Q1 1995 to 4Q 2016 time period (provided by TimberMart- South and Wood resource Quarterly). Prices were mixed, but were generally down in both real and nominal terms over the studied period, with the most significant declines recorded for hemlock sawlogs in the US PNW (-2.09%/year real over the subject period), and pine sawlogs in the US South (-2.05%/year real over the subject period). Nevertheless, both the NCREIF Timberland Index and major REITs provided nominal returns of between 6.5-7.0%/year over this same period. Returns were driven by other timberland investment attributes such as biological growth and product class shifts, land values, and non-timber income.
Other work done by ForestEdge LLC modeled the value of “typical” pine plantation properties in the US South over the 1995-2016 time period using biological growth and delivered timber prices as a proxy for timberland investment values. It was found that over this period, the value of these plantations would have increased at an annual rate of approximately 8.5%/year, from these three important return drivers alone (biological growth, product class shifts, and changes in delivered timber prices). The difference between this result, and actual returns previously cited can be attributed to variables such as changes in land values, acquisition prices, and management costs. The conclusion from this, and similar analyses undertaken by others, is that “if assets are purchased with a proper understanding of the drivers of return, the financial returns from a timberland investment are likely to be competitive on a risk adjusted basis with other investment opportunities”.
The traditional avenue for smaller investors in timberland has been direct investment in small properties, or to diversify their holdings through co-mingled, closed-end funds offered by TIMO’s. Given the similar performance of the NCREIF Timberland Index and REIT’s over the past 20+ years in the US timberland market, a strong argument can be made that the liquidity of a REIT investment offers a better risk-adjusted return in this geography than co-mingled funds for investors who are focused solely on financial performance. REITs however can be overly cash focused, and do not provide investors with the complementary benefits of direct timberland ownership, or any measure of management control. Recently offered open-ended funds are an improvement on traditional co-mingled funds, but may still be sub-optimal for family offices/high net worth individuals as they do not provide direct ownership or management of the assets, nor the opportunity to derive complementary timberland ownership benefits or to champion non-financial management objectives.
Direct ownership through individual or pooled investment vehicles likely remains the best way for smaller investors to reap the full range of timberland investment benefits. A relative small portfolio of 2-3 properties carefully selected to diversify end-markets and end-products can provide a large measure of diversification, and increasingly sophisticated property managers in many locales can provide both property management and limited financial reporting services. As former industrial properties are disaggregated and recycled, there are likely to be more opportunities for smaller investors to tailor affordable portfolios in the timberland space. A consortium of like-minded investors with respect to cash flow and value appreciation requirements, investment horizons, and risk/return requirements can increase the size of the investment vehicle, and permit a more diversified portfolio, while maintaining access to complementary timberland ownership attributes.
In summary, as the timberland investment space continues to evolve, there will continue to be opportunities for smaller investors such as family offices and high net worth individuals to invest in the asset class through an increasing variety of investment vehicles. The attributes of a timberland investment are seemingly well aligned with the objectives of many family office investors, and direct investment remains the most flexible investment structure for these specialized investors.