When Uncertainty Turns to Risk
in Ag Finance
Nathan Kauffman
Omaha Branch Executive and Economist
Federal Reserve Bank of Kansas City
October 27, 2015
FEDERAL RESERVE BANK OF KANSAS CITY
Of the 12 Fed Districts, the 10th District is the most
concentrated in agriculture by some measures.
Proportion of “Farm
Dependent” Counties
Average Farm Income as a Share of
Total Personal Income
Average Across Counties by Fed District
Percent
Kansas City
Minneapolis
Chicago
St. Louis
Dallas
San Francisco
Atlanta
Cleveland
Richmond
New York
Philadelphia
Boston
0
Source: BEA
10
20
30
40
Source: BEA, USDA, and staff calculations
FEDERAL RESERVE BANK OF KANSAS CITY
50
60
Today’s Roadmap
• Describing the nature of economic uncertainty
and risk
• Characterizing risk at agricultural banks
• Outlook for future risk from ag market
fundamentals
FEDERAL RESERVE BANK OF KANSAS CITY
“Uncertainty” has returned to the headlines.
Economic Policy Uncertainty Index
300
Index (Historical Average = 100)
250
200
150
100
50
0
Source: “Measuring Economic Policy Uncertainty” by Scott Baker, Nicholas Bloom and Steven J. Davis at www.PolicyUncertainty.com
FEDERAL RESERVE BANK OF KANSAS CITY
Much of the recent uncertainty has been due to
volatility in financial markets.
Economic Policy Uncertainty Index
Index (Historical Average = 100)
250
225
200
175
150
125
100
75
50
Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13 Jan-14 Jul-14 Jan-15 Jul-15
Source: “Measuring Economic Policy Uncertainty” by Scott Baker, Nicholas Bloom and Steven J. Davis at www.PolicyUncertainty.com
FEDERAL RESERVE BANK OF KANSAS CITY
The “fear index” also spiked recently,
but has since retreated.
CBOE Volatility Index
40
35
30
25
20
15
10
5
0
Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13 Jan-14 Jul-14 Jan-15 Jul-15
Source: Wall Street Journal and Haver Analytics
FEDERAL RESERVE BANK OF KANSAS CITY
At the Federal Reserve, the Beige Book also
captures sentiment surrounding uncertainty.
Usage of “uncertain” in Fed District Beige Books
50
45
40
35
30
25
20
15
10
5
0
Number of occurrences
2006 Average
Source: Federal Reserve Board of Governors
FEDERAL RESERVE BANK OF KANSAS CITY
The difference between uncertainty and risk
is not just semantics.
Uncertainty
Risk
GUARD DOG
ON DUTY
FEDERAL RESERVE BANK OF KANSAS CITY
How we characterize the degree of risk also
matters.
Uncertainty
Risk
GUARD DOG
ON DUTY
FEDERAL RESERVE BANK OF KANSAS CITY
Uncertainty complicates long-term planning.
High Probability
?
?
Low Probability
Negative Outcome
Positive Outcome
FEDERAL RESERVE BANK OF KANSAS CITY
Describing and managing risk, however,
is critical for any industry.
Probability (Percent)
20
One Year Ahead Corn Price
Expectations in October, 2012
15
10
5
0
0
4
Losses
Source: Calculations based on data from barchart.com
8
Gains
FEDERAL RESERVE BANK OF KANSAS CITY
12
The risk profile of U.S. agriculture has increased notably.
Probability (Percent)
20
15
One Year Ahead Corn Price
Expectations in October, 2012
10
One Year Ahead Corn Price
Expectations in October, 2015
5
0
0
4
Losses
Source: Calculations based on data from barchart.com
8
Gains
$/bu
FEDERAL RESERVE BANK OF KANSAS CITY
12
Recent developments in cattle markets also underscore a
heightened sense of risk.
25
Probability (Percent)
20
One Year Ahead Cattle Price
Expectations in October, 2014
15
One Year Ahead Cattle Price
Expectations in October, 2015
10
5
0
70
90
110
Losses
130
Source: Calculations based on data from barchart.com
150
170
190
Gains
210
230
250
$/cwt
FEDERAL RESERVE BANK OF KANSAS CITY
Characterizing Risk at Ag ricultural Banks
FEDERAL RESERVE BANK OF KANSAS CITY
Weaker profits and reduced cash flow have
boosted short-term lending needs.
U.S. Non-Real Estate
Farm Loan Volumes
U.S. Farm Debt Outstanding
at Commercial Banks
12
Percent change from previous year
100
90
80
70
60
50
40
30
20
10
0
10
8
6
4
2
0
-2
2009
2010
2011
2012
2013
2014
2015
Billion Dollars
2013:Q3
2014:Q3
2015:Q3
All NonCurrent
Feeder
Real Estate Operating Livestock
Farm Loans Expenses
Other
Farm
Other
Livestock Machinery Non-Real
and
Estate
Equipment Farm Loans
Source: Federal Reserve Bank of Kansas City, Agricultural Finance Databook
FEDERAL RESERVE BANK OF KANSAS CITY
Loan-to-deposit ratios have also picked up
significantly in 2015.
Loan-to-Deposit Ratios at Agricultural Banks
2015:Q2
0.84
Ratio
Ratio
0.84
0.82
0.82
0.80
0.80
0.78
0.78
0.76
0.76
0.74
0.74
0.72
0.72
0.70
0.70
Source: Federal Reserve Bank of Kansas City, Agricultural Finance Databook
FEDERAL RESERVE BANK OF KANSAS CITY
Increased ag lending has come primarily from operating
loan volume, which has continued to trend higher.
Volume of Loans to Finance Current
Operating Expenses
65
60
55
50
45
40
35
30
25
Billion Dollars (Inflation Adjusted)
Source: Federal Reserve Bank of Kansas City, Agricultural Finance Databook
FEDERAL RESERVE BANK OF KANSAS CITY
However, the ratio of operating debt, relative to
farm income, is rather high by recent standards.
U.S. Farm Sector Operating Loan Volume
70%
2.5
Operating Loan Volume as a Share of Total Volume (Left Scale)
Ratio of operating debt to net farm income (Right Scale)
Average ratio from 1990 to 2004 (Right Scale)
60%
2.0
2015
2013
2011
2009
2007
2005
2003
2001
1999
1997
1995
1993
1991
0.0
1989
20%
1987
0.5
1985
30%
1983
1.0
1981
40%
1979
1.5
1977
50%
Source: Federal Reserve Bank of Kansas City and USDA
FEDERAL RESERVE BANK OF KANSAS CITY
Moreover, the increased demand for non-real
estate loans has been primarily for larger loans.
Share of Non-Real Estate Loans Above $100,000
at Commercial Banks
18
Percent
16
14
12
10
8
6
Source: Federal Reserve Bank of Kansas City, Agricultural Finance Databook
FEDERAL RESERVE BANK OF KANSAS CITY
Large loans also now account for a much higher
share of total loan volume.
Volume of Non-Real Estate Loans
at Commercial Banks
110
100
90
Billion Dollars (in 2014 Dollars)
Volume of All Loans
Volume of Loans >$100,000
110
100
90
80
80
70
70
60
60
50
50
40
40
Source: Federal Reserve Bank of Kansas City, Agricultural Finance Databook
FEDERAL RESERVE BANK OF KANSAS CITY
However, bankers have noted only a slight increase
in “minor repayment problems.”
Tenth District Farm Loan Repayment Problems
2015:Q2
14
12
10
Percent of responses
Percent of responses
Minor repayment problems
Major repayment problems
Severe repayment problems
14
12
10
8
8
6
6
4
4
2
2
0
0
2011
2012
2013
Source: Federal Reserve Bank of Kansas City, Survey of Ag Credit Conditions
2014
2015
FEDERAL RESERVE BANK OF KANSAS CITY
Low interest rates on farm loans have remained a
mitigating factor.
Distribution of Interest Rates
on Non-Real Estate Farm Loans
35
Percent
Percent
30
2014
2015
25
35
30
25
20
20
15
15
10
10
5
5
0
0
0 to 2.9
3 to 3.9
4 to 4.9
Source: Federal Reserve Bank of Kansas City, Agricultural Finance Databook
5 to 5.9
6 to 11.9
FEDERAL RESERVE BANK OF KANSAS CITY
Although delinquency rates remain low, challenges
could intensify over the next year.
Size of Tenth District Agricultural Banks’
“Watch” and “Classified” Lists
60
Percent of responding banks
60
50
Watch List
50
40
Classified List
40
30
30
20
20
10
10
0
0
Less than 1 percent
1 to 5 percent
5.1 to 10 percent
Greater than 10
percent
Source: Federal Reserve Bank of Kansas City, Survey of Agricultural Credit Conditions
FEDERAL RESERVE BANK OF KANSAS CITY
Outlook for Future Risk from Ag
Fundamentals
FEDERAL RESERVE BANK OF KANSAS CITY
Ranchland values have continued rising,
but cropland values have pulled back somewhat.
Tenth District Farmland Values
35
30
25
20
Percent change from the previous year
35
Nonirrigated
Irrigated
Ranchland
30
25
20
15
15
10
10
5
5
0
0
-5
-5
2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015
Source: Federal Reserve Bank of Kansas City
FEDERAL RESERVE BANK OF KANSAS CITY
Relatively small adjustments in farmland values
re-emphasize a focus on liquidity.
Value of Nonirrigated Cropland,
Second Quarter 2015
Percent change from previous year
Distribution of Tenth District
Irrigated Farmland Values
18
16
14
12
10
8
6
4
2
0
Probability (percent)
Mean: $1,194
2001
2007
2015
Mean: $1,921
Mean: $5,008
0
3,000
6,000
9,000
12,000
$/acre
Sources: Federal Reserve Bank of Kansas City
FEDERAL RESERVE BANK OF KANSAS CITY
In the short-term, supply disruptions can have
significant impacts on crop prices.
U.S. Crop Prices and Drought
120
100
80
Index (2005 = 0)
U.S. Crop Price Index (Left Scale)
U.S. Drought (Right Scale)*
Percent of U.S. in at least “severe” drought*
120
100
80
60
60
40
40
20
20
0
0
Source: USDA, University of Nebraska-Lincoln, and NOAA
* Includes lower 48 states only.
FEDERAL RESERVE BANK OF KANSAS CITY
But absent some unexpected supply shocks, weaker
demand growth will be a key driver in the farm economy.
U.S. Ethanol Production and Ag Exports to China
450
400
350
300
250
200
150
100
50
0
Index (2005 = 0)
Ethanol Production
U.S. Ag Exports to China
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014 2015*
Source: USDA, FAPRI (Food and Agricultural Policy Research Institute – Univ. of Missouri, and Renewable Fuels Association
* 2015 ethanol production calculated based on data through October 2. Ag exports to China calculated from data through August 2015.
FEDERAL RESERVE BANK OF KANSAS CITY
Concluding Points
• Uncertainty abounds, but the risk profile of U.S. agriculture has
increased, and appears poised to increase further.
• Current conditions highlight liquidity as a key indicator of future
financial stress in the farm sector.
• A 1980s-style bust seems unlikely. However…
• Cash flow is steadily becoming a more significant concern.
• Farm consolidation could intensify as some producers face intensifying
financial stress.
FEDERAL RESERVE BANK OF KANSAS CITY
Questions?
Nathan Kauffman
Omaha Branch Executive and Economist
Federal Reserve Bank of Kansas City
Email: [email protected]
Website: http://www.kansascityfed.org/omaha/
FEDERAL RESERVE BANK OF KANSAS CITY