Lending in the Agriculture Sector: What Lies Ahead? - Lien Solutions

Lending in the Agriculture Sector: What Lies Ahead?

We recently had the opportunity to attend a large agriculture finance conference focused on risk in that sector. This year, the discussion centered on the weather, the global economy, and politics: risks that affect pricing of crops, loan health and the credit landscape.

What follows here are three forces to watch in the agricultural lending space for the remainder of 2018.

1. In spite of a generally healthy industry, new tariffs and instability of trade with China threaten to soften demand.

The U.S. Department of Agriculture (USDA) estimates the total value of all domestic agricultural production will rise to $422.1 billion by the end of 2018. That’s a 1 percent increase over 2017. At present, the United States is the globe’s second-largest agricultural trader, after the European Union. Domestic production continues to outstrip domestic demand, forcing farmers to find overseas markets for their goods.

Interestingly, exports of the traditional farm bulk commodities America has been best known for – wheat, rice, cotton and tobacco – have declined since 1995. They are being supplanted by exports of high-value dairy products, meat, fruits and vegetables. This is primarily due to diversification of diets worldwide.

According to the latest figures from the USDA, America’s 2018 farm exports will be above initial projections. The department has raised its latest estimate by $3 billion to $142.5 billion. This would continue a recent trend in rising U.S. farm exports, which totaled $140.5 billion last year. Increased demand from Asian nations is fueling the rise. The U.S. agricultural trade surplus is forecasted to be $21 billion by the end of 2018, roughly equal to the previous year.

However, the recent trade war between the United States and China is cause for concern and this conflict could negatively impact the American farmer. China has imposed new tariffs on many U.S. agriculture products, including pork and soybeans. The resulting higher prices from the tariffs may decrease demand. The results of this disagreement between two of the world’s largest economies have yet to be seen but will surely be closely watched.

2. Agricultural lending is slowing, and lenders must closely monitor the health of their loans.

In the field, U.S. farmers are doing their part to feed a growing world population. But what about on the lending side? It takes money to run any agricultural enterprise and usually that money comes in the form of loans.

Commercial agriculture loans remain near an all-time high, reaching $74.5 billion in the second quarter of 2018. However, delinquency rates on commercial loans to U.S. agriculture producers have been slowly rising since hitting a 25-year low in the fourth quarter of 2014. Loan charge-offs remain steady over the past two and a half years, well below the highs of the early 2010s.

Lenders consider many factors before issuing an agricultural loan. According to a survey of farm lenders conducted by the American Bankers Association, commodity prices top the list. More than 90 percent of lenders surveyed listed commodity prices as the top or second-highest concern. Liquidity was the second biggest worry among lenders, followed by farm income, farm leverage and finally, weather. Grains and dairy were the top two lender concerns by commodity sector, with beef cattle and swine (pork) next.

Among lenders themselves, credit quality is the primary concern for banks and other institutions, according to the same American Bankers Association survey. Ag loan deterioration, competition from other lenders, lack of a qualified lending staff and weakening loan demand round the list of internal concerns.

3. The lending landscape is changing: as smaller, rural and community banks consolidate and merge, there are fewer players issuing agricultural loans.

The outlook for agriculture lending offers a mixed harvest. While production and demand have been increasing in the beginning of 2018, and loan delinquencies hold steady at low levels, there are some disquieting indicators. Chief among these is the decline in farm sector net farm income. This is expected to drop $900 million in 2018 to $65.7 billion, representing a 13 percent loss from 2017. Net cash income is also expected to slide 12 percent to $91.5 billion. Direct government farm payments in 2018 will drop 17 percent while total production expense will increase 3.3 percent. Farm sector equity is expected to drop 1.2 percent, adjusted for inflation. Farm debt should rise 4.4 percent. These factors could combine to increase agricultural borrowing.

But borrowers and lenders will have to contend with a changing agricultural loan landscape. Rural state banks continue to consolidate as smaller institutions are being merged with larger banks with wider geographic footprints. These larger banks naturally have larger loan portfolios. But with the larger portfolios comes a decrease in the quality of the outstanding loans, often resulting in a greater reluctance to offer credit. These banks and lending institutions will be looking for ways to ensure they do not add additional risk.

The complexity of the ag lending space is plain to see. The degree to which falling prices and tariffs affect the overall lending space remains to be seen, but they are surely factors which will be watched closely as the fourth quarter of 2018 commences.

In future posts, we will take a deeper look at specific market factors and how they can be mitigated with the right tools and insights. In the meantime check out this case study that shows how one farm credit organization utilized a lien management program in order to access all its filings in one place, with quick views into the status of each.