Farmland and country house prices rocketed in the last two years as City boys invested their bonuses in green acres. Now the banks have crashed and City jobs as well as bonuses are under threat, is farmland likely to follow? Ian Bailey, head of rural research at Savills, says that the investment of City money certainly did have an impact on the market for agricultural land over the past couple of years. “Up to last year,” he says, “the bonus pool was quite important, and 35 to 40 per cent of all our farm buyers were what you could call lifestyle buyers, where agricultural income was not a primary motive.”

He says that these buyers haven’t completely disappeared. Those left are frequently cash buyers, with wealth that doesn’t depend on a single year’s bonus. Indeed, he believes, “the larger purchasers have increased their presence as the lower end of the scale has decreased.” But the credit crunch has significantly reduced the number of non-farmer buyers of farmland, and some of the non-farmers have been selling up.

However, the absence of these buyers has meant to end of a period of exceptional growth in values in the agricultural market. According to Knight Frank’s figures, though 2008 finished with priced 16 per cent up on the previous year, the fourth quarter saw a five per cent fall in prices, and land prices have continued to fall since. We shouldn’t overestimate the importance of the City buyers, though. Ian Bailey says that, “80 per cent of the farmland is farmed by 20 per cent of the farmers” – big farmers, together with major investment owners such as the Crown and the Church Commissioners. So the smaller lifestyle buyers and investors share the other 20 per cent of the land with smaller farmers – they are an important factor at the margin, in a market with tight supply, but they do not, by any means, represent a large percentage of holdings.


A DECADE OF GROWTH IN THE FIELDS

Even after recent falls, farmland has been a good investment over the last decade, says Knight Frank – the price has risen from £2000 to £4673 an acre. That’s not a bad return at all. But in the second half of 2008, prices fell across all regions and across all farm types. This is partly due to changes in Capital Gains Tax regulations. The removal of taper relief and indexation from April 2008 left farmers with a narrow window for sales to take advantage of accrued reliefs. That led to a temporary increase in supply, as sellers rushed to finalise transactions while they could still take advantage of the old rules.

However that was a temporary blip. Subsequently, supply has fallen back – in the first quarter of 2009, Savills say it was flat. Ian Bailey says sellers in the farming sector are scarce. “The significant thing in the farmland market is that there’s very little supply,” he notes. “In the 1960s, 1.6 per cent of the market turned over every year – now it’s less than half a per cent.”

Smiths Gore, the property consultancy firm, is seeing fewer farms actively marketed than last year. Many potential vendors, it seems, are waiting to see what happens to the market and unwilling to sell at low prices since they expect the market to recover. Smiths Gore also says the average size of farms being marketed has shrunk, with bigger parcels of land being held back until the direction of the market becomes clear. This seems unlikely to change – with the firm forecasting a 25 per cent fall in supply for the year as a whole.

Low interest rates have helped, as farmers find it easier to service their debt. Ian Bailey points out that in previous recessions, farmers have had to cope with interest rates as high as 10-15 per cent. And in any case, gearing is relatively low in UK agriculture. The price of rural residential property, on the other hand, has fallen dramatically. According to Knight Frank, while land prices fell two per cent over twelve months, houses fell by 20 per cent. And Ian Bailey says, “There’s been more of an impact on the country house market than on farmland.”

The RICS’ Rural Market Survey puts this down to the City boys. “Lifestyle buyers, formerly one of the main drivers of activity, have all but disappeared.” It seems that much of the demand in the farming sector is now coming from existing farmers who are looking to increase their acreage – and don’t need a second farmhouse. The fall is slowing; Knight Frank’s Prime Country House Index shows that while prices fell nine per cent in the last quarter of 2008, they fell only 4.7 per cent in Q1 of ’09. The fall was pretty much even across all the different types of property: cottages, farmhouses and even manor houses.


REGIONAL VARIATIONS

But the regional distribution of the fall in prices is interesting. The market close to London has been fairly resilient, as these houses appeal to both local buyers and commuters. Country houses in the Home Counties fell only 3.7 per cent this quarter. On the other hand those areas further out fell much more severely, with Scotland and the North seeing a 6.3 per cent fall and the South West, where most houses are bought as holiday homes, also looking weak. That’s a reversal of the trend over the last year which saw London falling more quickly as the impact of the banking sector crisis was felt – and suggests that the commuter belt may be the most resilient area in the next year or so.

Prices of agricultural land have also been supported by a generally positive attitude in the financial sector – a big difference from residential lending, where credit has been increasingly tightened. RICS in its last Rural Market Survey noted that, “Banks have become increasingly willing to lend to the agricultural sector;” 2008 saw an increase of 8.2 per cent in agricultural loans – against a 49 per cent decline in residential mortgage lending.

That’s partly due to the fact that – whatever you might hear in The Archers – most farms have benefited from increasing commodities prices. Though wheat prices fell back at the end of 2008, prices are rising again; at the same time, input costs such as diesel fuel are falling. Farmers are making profits, but profitability remains marginal. Arable farmers need a wheat price of £120 to break even, according to Knight Frank’s research, and they’re currently getting only £110. Unless commodity prices ratchet up significantly, low profitability will probably limit further gains in land prices, at least in the arable sector.

Dairy farmers, on the other hand, benefited from the recent slump in arable prices – which are an input cost for them. So over the second half of 2008 we saw arable land values slumping – the East of England was where prices fell most – reflecting the falling wheat price, while the price of pasture land remained almost unchanged. RICS data shows arable falling by nine per cent overall, while pasture land prices were almost unchanged in 2008.



FUNDAMENTALS FOR GROWTH

What’s next for the country market? Most firms agree that farm prices are likely to remain stable for the next couple of years. Savills expects prices to fall five per cent in the first half of ’09, but make up that shortfall in the second half to end the year level. Ian Bailey says that supply is likely to continue to be limited, while the long term demand for food production is sure to rise. “You’ve got population increasing, you’ve got wealth increasing worldwide in the long term – despite the current crisis - you’ve got biofuels increasingly taking a share of production, and a finite amount of land. The fundamentals are there for land values to continue to increase, though not at the rates we’ve seen before.”

There’s an argument that farmland represents one of the safest investments available during the current financial crisis. Like gold, it provides a hedge against inflation – and it’s defensive, in that it’s likely to continue to generate income. That income might not grow particularly quickly – Ian Bailey believes that it’s farms in Eastern Europe and other emerging markets that offer the prospects of increasing yield, and income, through better management and investment in new equipment – but it is likely to be stable. When residential rents are falling and companies are cutting dividends, farmland is becoming attractive investment.

There are tax advantages, too, associated with working farms. Agricultural reliefs allow farms to be passed on in the family without inheritance tax being paid. It’s even been suggested that farms look more attractive as a means of saving for the long term now that the recent Budget has restricted pensions relief for high earners - though there is no income tax advantage. To a lesser extent low returns on other types of asset are an argument for investing in country houses, too.

Andrew Shirley, head of rural property research at Knight Frank, says; “buyers, particularly those with money on deposit at low interest rates, are certainly starting to perceive that property now offers value for money again.”

Savills also predicts that the farm market will become increasingly polarised, with a high premium for prime agricultural land. Prime arable, for instance, could get £7000 an acre, and prime dairy land as much as £10,000 an acre, against the average of round about £4000. The East of England and West Midlands, in particular, are likely to see higher prices as their higher quality acreage achieves a premium. Ian Bailey adds, “Big farms are hot. The investors want big farms because they’re looking at income,” and economies of scale bring higher profits.




THE COUNTRY HOUSE MARKET

As for the country house market, it’s difficult to tell, but Knight Frank reports that some bargain hunters are coming back into the market, and there’s even been some competitive bidding for country houses recently. Rupert Sweeting, head of country department at Knight Frank, says “Viewings are starting to approach normal levels.” March saw a one per cent increase in transaction volume over the same month last year. This quarter will be crucial – from Easter to June are the prime months for country house sales. But it does seem that now sellers have adjusted their asking prices downwards to realistic levels – in some cases as much as halving the asking price – the market is becoming more active. Still, it’s not back to 2007 levels, and some estate agents may have to slim down further to keep solvent.

The increased volume of sales is partly down to the influence of overseas purchasers, attracted by sterling’s weakness against other currencies, and particularly its fall against the euro. Rupert Sweeting notes that in addition to euro-based buyers, Russians and other CIS nationalities are heading for the English countryside. While they’ve been an influence on the London market for some years now, they haven’t up till now been such a big influence on the country house market, but that looks as if it could change.

But the main source of demand for land now appears to be the larger farmers and investors, buying up acreage to expand their portfolios. And that, perhaps, is one thing that the agricultural sector does have in common with buy-to-let – it’s getting more and more difficult to be a small player, and the big guys are entrenching themselves even further.