SIX REASONS FARMERS MAKE GOOD SHARE INVESTORS
Mark Lister, 2021
We have a lot of clients from farming backgrounds, either past or present. They’re great people, and many have spent decades overcoming a plethora of challenges to grow phenomenally successful businesses.
Investing in portfolios dominated by shares, listed property, private equity and fixed income doesn’t always come naturally. Having less control over the fortunes of where your capital is invested is one hurdle, while diversifying far and wide is also a foreign concept for many.
However, farmers that can get their head around those hurdles often become astute investors. Here are six reasons why.
They appreciate that risk can come from anywhere
Farmers can be cautious, slightly cynical at times, and even a little bit grumpy. I never hold that against them, and I think that thoughtfulness serves them well.
Farmers have an awful lot of risks to consider in their line of business, many of which are outside their control.
Commodity prices, interest rates and the currency are obvious ones, and while related to some degree, these are largely driven by global factors that are impossible to predict.
Government policy changes are an ongoing risk, most obviously here at home but also offshore. If incentives or regulations change in other countries, that can impact the cost structure or supply response of other regions.
Then there’s the weather. Even if you get everything right, a bad season can torpedo an entire crop for some farmers.
Share investors have an equally long list of things to worry about, and many of these are just as difficult to predict. Like farming, investing success is as much about risk management, as it is being a stock picker or market forecaster.
They know that the long-term is far more important than the short-term
Keeping your eye on the long game can be difficult, especially when you're in the thick of a bout of short-term market turmoil, but it's non-negotiable for any good investor.
The average annual return from US shares in the post-war period has been 10.6 per cent (including dividends), with positive returns in 78 per cent of those 75 years.
However, over short-term holding periods the variation can be huge. The best 12-month period was a 59.5 per cent gain, and during the worst US shares fell 41 per cent.
It’s not dissimilar with farming. Anything can happen over the short-term and bad years are simply par for the course.
Like a great piece of land, a good quality share portfolio will just about always do well over the long-term, which is what most of us are investing for. The hard bit is keeping your cool when the short-term is looking more difficult.
They understand that fundamentals always trump fads
Fashions and fads will always come and go. Along the way, prices and valuations can get out of whack, while markets can become overly pessimistic or exuberant.
However, the value of an asset is ultimately a function of the cash flows and returns it can generate, even if those are some time away in the future.
Investing in quality assets (be it land or businesses) that are difficult to replicate, generate solid returns, and which are exposed to long term structural growth trends will always trump jumping on the latest bandwagon.
They have a history of innovation
New Zealand is blessed with a climate that lends itself to successful agriculture, but our farmers have also been very innovative over the years.
In part, this was forced upon many after the farm subsidies were removed in the 1980s, during a period where other parts of the world benefitted from more generous government support.
This need for constant improvement, innovation and reflection will resonate with investors. If we look at the world’s most dominant companies from 30 years ago, few of these would find themselves on the same list today.
The farming landscape will continue to evolve, as will the economy, while sharemarkets and companies require constant scrutiny.
Those who embrace change and appreciate that nothing is set in stone are best placed to continue performing.
They understand that leverage can be a double-edged sword
The financial term for using other people's money to invest in something is "leverage". In a rising market leverage can make you very wealthy, supercharging your returns.
However, in a flat or falling market high debt levels can do the opposite, by magnifying your losses.
That's the tricky bit when it comes to debt. It can be a great friend, but moderation is important and the concept works best when asset prices are rising.
Many farmers have lived through an era of much higher interest rates, and some will have seen their peers get into trouble by overpaying and overleveraging.
When it comes to analysing companies, balance sheet strength and an ability to ride out a potential downturn or recession is one of the key attributes we look for too.
They recognise the need for growth assets
Many farmers will remember the 1970s and 1980s, when inflation was running at an annual rate of more than ten per cent.
Even just 2.5 per cent, inflation is still the enemy of investors and those looking to maintain their spending power. Over 10 years inflation of this level will reduce the value of your capital by 22 per cent.
Land has always been a great asset for those looking to insulate themselves from the scourge that is inflation. But even after you’ve sold the farm, it is crucial that you continue to protect yourself from this erosion of your wealth.
Growth assets like listed property, shares and interests in private companies can help achieve this.
Since 1967, the “real return” (which is the annual return in excess of the inflation rate) from New Zealand shares has been 4.0 per cent.
Shares provide returns from capital growth and dividends. Capital growth comes from a rising share price, while dividends are an income stream that is paid by the company to shareholders out of profits.
Good companies endeavour to steadily increase these dividends over time, which provide investors with an element of inflation protection.