2022 PROFIT POTENTIAL, CONCERNS LIKELY TO REMAIN IN 2023

Costly inputs, higher interest rates and high commodity prices made this year a frenzied one for most producers. Supply chain challenges and extreme drought have plagued growers and livestock producers alike, even as market prices remain competitive.

But will the same chaotic-yet-profitable environment follow in 2023?

Jake Espenmiller, Conterra Ag Capital chief lending officer, says likely.

“If you’re a disciplined marketer and you’re protecting your downside, 2023 is likely to be profitable again,” he says. “The concerning issues this year will likely stay top of mind in the new year, while the positives are likely to carry over, as well.”

Drought and transportation

The most concerning issue, Espenmiller says, will continue to be drought. Regardless of location, it’s likely every U.S. producer is feeling the effects of drought to varying degrees. According to the U.S. Drought Monitor, extreme-to-exceptional drought covers much of the country’s most productive agricultural regions.

“We need moisture, there’s no doubt about it,” says the Iowa native who also farms in the Northwest part of the state. “A wet winter could help sub-soil moisture levels in the Corn Belt in 2023, but we need a sustained period of above normal rainfall to offset the stark dryness.”

Extreme drought is underpinning another concern from the year – Mississippi River transportation. Most U.S. agricultural exports go through the Gulf of Mexico, meaning any impact to barge transportation has a direct impact on the ag economy.

“Commodity prices are competitive when ag exports are strong,” says Espenmiller. “It’s a huge cause for concern when drought is causing a slowing or stoppage of movement of ag exports.”

Despite these challenges, Espenmiller says positive items from this year will likely keep the ag economy strong in 2023.

Land values and interest rates

Double-digit land value hikes boded well for farmers’ balance sheets this year. Some areas of the country saw as much as a 34% increase in farmland values. The most agriculturally productive regions saw auction sales that drew national attention. Espenmiller says this is good news – for the most part.

“It’s certainly good for the balance sheet when assets appreciate,” he says. “But if you were looking to add more acres this year, it’s a tough market.”

But the real concern when any asset appreciates is what Espenmiller deems the “wealth effect.” When producers feel good about their balance sheets, it can sometimes lead to paying more for land and equipment, burning precious liquidity in the process.

“I try to encourage producers to be self-aware of the wealth effect and the psychology of how it impacts your decision making,” says Espenmiller. “Especially now that we’re getting into auction season, there’s no indication yet of values slowing down..”

What is slowing down, according to action from the Federal Reserve, is inflation, thanks to increased interest rates. While increased interest rates likely are not on anyone’s Christmas list, Espenmiller says they can be a good thing. And, even after some hikes, current interest rates are still comparatively favorable, even if the Fed raises points again before the new year.

“Interest rates have been so low for so long that increased rates have more of a sticker-shock effect,” says Espenmiller. “Borrowers will realize that rates in the 5s and 6s are still good historically speaking, we’ve just gotten used to the lower levels.”

Recession risk

Taylor Kaus, analyst at Conterra Ag Capital, says increased interest rates potentially have impacted the general economy more than agriculture. Historically, agriculture and rural communities have remained one of the most isolated segments from recessions due to the different market dynamics agriculture faces. For example, unemployment in agriculturally dominant states remained lower than others during the last recession, as the agricultural sector continued to be a net exporter, maintaining a positive balance of trade.

Regarding inflation, the influence on agriculture will be mixed. Higher commodity prices are always welcome in the industry, but increased labor, fuel and fertilizer prices going into 2023 will hurt producers. This will be a double whammy for some producers, who will need to borrow more operating funds than in recent years to finance higher inputs, while paying a higher interest rate on those balances.

“Holiday spending this year will be a good indication of consumer confidence in the current market,” says Kaus. “Compared to recessions of years past, consumers are certainly in a stronger position now thanks to lower real debt, increased debt service ability, and increased savings, with pandemic money still floating around.” While Black Friday and Cyber Monday sales came in stronger than expected, consumer confidence and balance sheet strength can quickly wane.

Kaus says most economists would say there is a high probability of recession in 2023. But looking at recession history, most true recessions – defined by two consecutive periods of negative GDP growth – don’t last more than two or three quarters. However, technical definitions aside, the impact on consumers and businesses can be painful and long-lasting.

“If we enter a recession, it will likely be in the first or second quarter of 2023 and it will be moderate,” says Kaus. “With savings at an all-time high and the labor economy still extremely strong, I would expect a recession to be short-lived. However, there are many flashpoints on the economic and geopolitical stages which could quickly change that outlook.”

Both Kaus and Espenmiller agree – if 2022 was any indication, 2023 will be another interesting year.

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