Sky-high fertilizer prices, costly herbicides and equipment parts scarcity make for a bleak combination for growers this planting season. As inflation and high grain prices drive input costs higher, rising interest rates are once again making headlines for the first time since 2018.
To slow down inflation, the Federal Reserve System (the Fed) can raise interest rates – and they already have. After seeing significant inflation in 2021 without any correction from the Fed, retroactive correction is now taking place. On March 17, the Fed raised rates 25 basis points and has indicated it will again raise target interest rates another 50 basis points in early May. Historically, adjustments have been limited to 25 points.
What does this mean for farmers and ranchers?
“Producers should expect to see increasing costs to borrow money throughout the year,” says T.J. Roemmich, Conterra Ag Capital senior vice president, credit officer. “The inflation we’ve experienced isn’t typical and without policy action, it’s here to stay. This will increase the cost to farm and widen credit spreads.”
Roemmich reports that while the Fed might raise rates 50 points, it could lead to a much higher impact on producers. He says that last year, 30-year fixed rates were quoted in the upper-3% to low-4% range and today, 30-year fixed rate farm mortgages are hovering around 6%. The initial Fed rate hike has been met with increased credit spreads as investors seek higher returns on bonds, due to perceived increase in credit risks and worries of recession.
As the crisis in Ukraine continues to unfold, U.S. agriculture will remain heavily impacted. Despite supply chain improvement in a post-pandemic world, the Russian invasion and related sanctions significantly impact fuel costs. While commodity prices currently give producers the opportunity to make more money compared to prices in recent years, increased input costs will shrink farm profitability, according to Roemmich.
Some producers may favor long-term loans that can offer assurances with a long-term fixed rate. Other producers gravitate toward shorter, more variable rate loans believing the lower cost is worth the risk if next year’s rates stabilize or fall back.
To combat this volatility, Roemmich offers two options that producers could consider to limit risk in this environment:
- Producers could take a long-term, fixed-rate loan. A 20- or 30-year loan offers assurances as far as interest rates go and may help producers rest easy at night knowing they have a fixed rate that won’t be susceptible to rate hikes down the road.
“Most borrowers tend to refinance around the seven- or ten-year mark on those long-term loans,” says Roemmich. “So, there’s not a one-size-fits-all plan.”
- Another option to build in some risk management to your borrowing plan is to take two notes. One can be a fixed, long-term rate and the other a shorter-term variable rate to blend your total rate down.
“Since the 1980s, taking the short-term variable rate has paid off,” says Roemmich. “But since the 80s, we’ve largely been in a decreasing rate environment. The last 40 years of history may not be a great indicator of what’s to come.”
How high the Fed raises rates will dictate just how high producers should expect to see their specific rates rise. Amidst ongoing market uncertainty, making informed borrowing decisions is critical to the long-term success of any operation.
For borrowers with significant equity looking for a low-rate option to purchase additional real estate or operating capital, Conterra’s revolving line of credit offers a monthly variable rate that’s priced low for the current market.
“Conterra is very competitive in the marketplace right now even though it’s the most volatility I’ve seen in my time here,” reports Roemmich, who started at Conterra in 2014.
Producers are encouraged to get in touch with their loan officers or regional relationship manager to better understand the best borrowing options for each operation.