Timber is not necessarily something that’s at the forefront of an investor’s mind, but we think it’s worth a look for the more adventurous investors because of its unique characteristics.
While global stock markets have seen significant levels of volatility in the last few years, timber funds have been resilient. They can also offer an element of diversification away from the more traditional equity markets.
Timber: Growth and Diversification?
In its simplest form, the primary driver of timber returns is from the growth of trees, giving the asset an absolute return characteristic. Timber is also not affected by economic cycles since trees grow irrespective of what is happening at a macro level. Timber growth is also positively correlated to inflation, giving some hedge against inflation. The trees grow into higher value market price points with age. Thus returns can also be influenced by timber price changes, land appreciation and other smaller components, such as recreation licensing, and mineral and water extraction.
Where timber differs from other agricultural products is that it does not have to be harvested annually, but instead, when the market is growing and the demand is high. Thus timing is much more flexible.
Timber investing has been particularly helpful during recent bear markets. In 2008, when the MSCI World index plunged some 18% (in GBP terms), NCREIF Timberland, one of the most prominent timber indices, grew by nearly 52% (in GBP terms). However, in 2009 it lagged the MSCI World index by roughly 30%, demonstrating that this investment is just as rocky as equities, though the direction of both markets can vary.
Investing in Timber with Closed-End Funds
Investing in timber directly can require a large amount of capital and decades of patience, with virtually no access to that capital. But one vehicle structure that addresses these problems, to some extent, is a closed-end fund, which gives investors access to a larger pool of money and an element of liquidity since the shares of the fund themselves can be traded.
There are three closed-end timber funds traded on the London Stock Exchange and the Channel Islands Stock Exchange.
The oldest and largest of these three investment trusts is the Phaunos Timber Fund (PTF). The fund was launched only in December 2006, but the 13-person team’s experience in timber and timberland investing extends back to 1980. The £325 million portfolio is invested globally and split by species, locations, age and class. Since its launch until October 31, 2012, it has gained 4.3% on an annualised basis, which is a full percentage point more than the MSCI World index. The team has also managed to keep risk in check: the fund’s standard deviation, a statistical measure of risk, is roughly three percentage points lower than the MSCI World index. The fund’s discount has increased by more than 40% since the fund’s inception, influenced by a slowing US housing market and sluggish growth in China. This wide 40%+ discount creates a potential buying opportunity for investors since the fund’s three-year average discount is narrower.
Cambium Global Timberland (TREE) launched just three months after PTF. After a good start, investors have experienced three consecutive years of negative returns.
The third fund, Forest Company (FCO), launched in July 2007 and is distinctive from the other two funds in that it invests its total assets in high biological growth plantation regions in South America, rather than spreading its investments globally.
These three funds all offer something a little different to investors who are willing to go out on a limb and try out timber.
The original version of this article was published in Investment Adviser, which is part of the Financial Times Group.
