The Ignorant Investor

According to the Wall Street Journal, big money is pouring into timberland. The reason?

Apparently there’s a lack of outsized returns on other types of investments like stocks and bonds. Too much money sitting around in the drawers of pension funds, central banks, hedge funds, oil-rich nations and corporations with surplus cash and no good place to put it means people have to go looking in places they never wanted to look before. Cash is, after all, the enemy of the investing class. Sitting by itself in an account someplace, the best cash is going to get you is the rate of inflation, and these are professional risk takers we’re talking about. They’re not satisfied by the puny returns guys like me are happy to get:

“Industry insiders say $10 billion more U.S. timberland will come to market over the next year or two, and that investors are lined up to buy it. The result of this fervor is that prices have climbed, in some cases doubling in five years, despite weakness in prices of the lumber the forests produce.”

This is where the logic behind the investment breaks down. Why buy an asset that makes lumber when the price of lumber is going to go down? Part of the answer may lie in the leverage they get by purchasing land with borrowed money:

“With bond yields puny and stocks flat year-to-date, timber offers a shot at stable returns in the high single digits, mostly from long-term growth in the value of the land and its trees. Low interest rates make it cheap for an investor to borrow cash to magnify a bet on timber.”

So basically, they’re planning on taking a litte cash, borrowing some money at 4-5% to add to their stakes, and then using the combined pile ‘o gold to buy woodland that can return about 9% (net of the expense of borrowing the money? The article doesn't say).

A snippet from a 2003 article from the Motley Fool written by Mathew Emmert lays out the case for timber a little more succinctly than the Journal does:

"One of my favorite financial authors is Paul Sturm, who has a regular column in SmartMoney Magazine. A couple of years ago, Mr. Sturm wrote an article detailing the benefits of adding timber to one's portfolio, and he made compelling arguments around why this asset class deserved attention.

For starters, a diversified timber portfolio would have returned 13.3% annually over the past 40 years -- not bad. And timberland is a remarkably low-risk asset, with levels of volatility resembling bonds more than stocks. Even better for our purposes, timber tends to perform best when stocks and bonds suffer, and it moves fairly independently of other REITs."

First off, congrats to Mssrs. Sturm and Emmert for their prescient viewpoints on timber back in 2003. The Plum Creek Timber REIT mentioned in the article has gone up about 80-90% since then, but recently growth in the share price has petered out. In 2002 it had earnings of a $1.25 a share, and those have grown only about 40% to an estimated $1.79 per share in 2005, meaning that the share price has outstripped earnings growth. Dividends have remained stable since 2002 as well, and it now with the higher stock price it yields only about 3.9%. Back in 2002, PCL was yielding about twice that. So it’s not as attractive an investment as it once was. Seems like I missed the boat on this beast.

So will I soon be kicking myself for not buying shares in a timber REIT? Yes. Probably. But that comes with the territory of being me, and I'm cool with that.