You may have heard the view that most asset classes are currently looking expensive. This begs the question as to where pension schemes can invest to get a reasonable level of return. One such asset class could be timberland.
What is investment in timberland?
Investment in timberland is the purchase of land and planting timber on that land. The timber then grows and gets cut down, is sold and so on. The return on this investment is, therefore, composed of the following elements:
- General inflationary growth
- Increase in timber and land values in excess of inflationary growth
- Increase in quantity of timber as trees grow
A final relatively new element of that return could be the carbon offsetting element of timberland, with the ability to potentially sell carbon credits in respect of the timber. Clearly, timberland has strong environmental social governance (“ESG”) credentials.
Some commentators feel that this asset class can give a return of about 6-8% in the long run, net of management fees.
Benefits for a pension scheme
As mentioned, timberland could provide a decent long-term return. Investment in timberland provides real growth, so to some degree hedges against inflation. It also provides diversification within a pension scheme’s portfolio as its price is likely to move differently than, for example, equities. Then there are the strong ESG credentials – ESG is becoming a more and more important issue for pension schemes.
Is there a catch?
All this sounds too good to be true, so what is the catch? Well, firstly, there are risks attached to growing timber, for example pestilence, fire risk etc. Some of these risks can be mitigated by insurance and proper management. Secondly, there is the question of sourcing and accessing timberland – this is quite a specialised area and access to this market is quite difficult. Linked to this is the cost of purchasing and managing the timberland, which is not insignificant.
Accessibility
The big issue for me is how pension schemes can access this asset class. The typical route for most schemes is through a pooled fund, as such funds provide diversified exposure to different types and geographies of timberland so reducing risk. However, given the illiquid nature of this asset class (it can take 10-20 years to grow a forest), schemes need to be sure that they will not need access to such funds in the short to medium term. There is a secondary market but it is not yet well developed.
So, for many schemes that are maturing and becoming cashflow negative, timberland might not be such an ideal investment, or at the very least, these schemes might need to limit their exposure to the asset class.
In summary, I believe timberland has a role to play for some, but not all pension schemes. If you are interested in this asset class and require any further information, please feel free to contact your investment consultant.