Timberland as an asset class

A timberland investment management organisation is an asset manager. It does not primarily own timberland on its own account; it acquires and manages it on behalf of clients - pension funds, endowments, insurers, sovereign funds - usually through a fund with a defined life or through separate accounts for a single large investor.

The structure has consequences that are visible from the fence line. A fund with a defined life is a seller at some point, whether or not that is the best year to sell, which is why blocks come to market on a schedule that has nothing to do with the trees. The manager is paid on assets and performance, and reports to clients on a quarterly cycle. And because the investor is a fiduciary, the property is appraised regularly and managed to a written plan - the antithesis of an owner who cuts when he needs a roof.

A timberland REIT is a company, publicly traded in the well-known cases, that owns timberland directly and elects real estate investment trust status for tax purposes. In exchange for distributing most of its taxable income to shareholders it avoids tax at the corporate level, which is the structural reason the model exists at this scale.

The practical differences from a TIMO are ownership and liquidity. A REIT owns the land on its own balance sheet with no fund end-date forcing a sale; a share can be bought and sold in a second, while the underlying tract cannot. And a public REIT reports publicly, which is why anyone can read what the largest timberland owners in the South say about markets, harvest plans and land sales each quarter. Several of them also run significant wood products manufacturing and real estate segments alongside the timberland.

Institutional timberland return is usually decomposed into three sources, and the decomposition is the useful part.

Biological growth

The trees get bigger whether or not anyone is watching, and - the part outsiders miss - they move into more valuable product classes as they do. A tree crossing from pulpwood into chip-n-saw into sawtimber gains value per ton as well as tons. This is the source with no analogue in most other assets.

Timber price change

What the wood sells for, which is regional, mill-driven and cyclical. Over long periods it has been the least reliable of the three.

Land value change

What the underlying dirt is worth, including any premium for recreation, conservation or eventual conversion to another use.

The operational lever on top of those is timing. Because growth continues and the crop does not spoil, an owner can defer harvest through a weak market and cut into a strong one. Institutional owners describe this openly as one of the asset's defining features - and it is the same option a family tract has, exercised with a spreadsheet instead of a hunch.

When the trade press cites a return for timberland as an asset class, the number almost always comes from NCREIF - the National Council of Real Estate Investment Fiduciaries - whose timberland index measures the performance of properties held in a fiduciary environment by its contributing members, reported quarterly and split into an income component and an appreciation component.

What that structure tells you is real and worth knowing: how institutionally held timberland performed as a portfolio, how much of the return came from cash generated by harvests against changes in property value, and how those two behaved through a cycle. It is the closest thing the asset class has to a public scoreboard.

This page cites no index value, here or anywhere. The numbers belong to the organisations that build them, and the link below is where they are published.

The limits are as important as the measure, particularly for a reader tempted to apply an institutional return to his own ground.

• The appreciation component rests on appraisals, not transactions. Appraisal-based series are smoother than the market they describe and they lag it.
• The universe is institutional property contributed by members - large, professionally managed, geographically diversified holdings. A single tract in one county is not a small version of that.
• It is a benchmark, not a price. Nothing in it tells a landowner what a mill will pay for his pulpwood this month.
• Composition changes as members enter, leave and transact, which affects comparability across long spans.
• Regional and property-type detail inside the index can diverge sharply from the headline.

The stumpage question - what standing timber actually fetches in a region - is answered by regional price reporting services rather than by an investment index, and those are subscription products belonging to the firms that build them.

Three things on this page are directly useful to someone who owns woods rather than units in a fund.

The first is that the institutional owner's discipline is available to anyone: know your inventory, know your growth, have a written plan, and treat harvest timing as a decision rather than an event. The second is that you already hold the option institutions prize - the ability to wait - and it is worth something only if the rest of your finances let you exercise it. A landowner forced to cut in a weak market has given away the asset's best feature.

The third is about the market you sell into. When a neighbouring block trades, the buyer may well be an institution running the analysis described above, and its bid reflects site quality, product mix, access and haul distance rather than sentiment. Understanding how it reads a tract is how a family owner reads his own.