The ag credit crunch: Loans still available, but low interest rates not

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SALEM, Ohio — Farmers probably will not have trouble securing operating loans and farm capital after the most recent financial crisis, but when they do, they’ll be paying more for them.

That’s according to Larry Davis, vice president of the KeyBank Food and Agribusiness Team, a $100-million lender in the Great Lakes region.

“The availability of credit to high-quality borrowers is probably still there, but the cost of that credit may be higher than what farmers have experienced in the recent past,” said Davis, who’s watched agricultural lending trends for more than 20 years.

For instance, a farmer who’s been borrowing at prime rate — currently 4.5 percent — will likely now be borrowing at 4.75 or even 5 percent interest.

“It’s a bit of an increase, but the availability is still there.”

How we got here

“The simplest and most direct answer to how we got where we are today is that, over the past few years, too many ‘bad’ mortgage loans were made in the United States,” explained Nick Paulson, an assistant professor of agricultural finance in Illinois.

Paulson pointed to a combination of relatively low interest rates and credit availability, which combined to create the boom in U.S. real estate markets.

Borrower demand for home mortgages increased significantly and mortgage brokers came up with creative ways to make loans available to a larger pool of potential borrowers.

“Additionally, the rapid increase in real-estate values provided justification for lending amounts in excess of market values without down payment requirements and documented proof of repayment ability,” he said.

“Unfortunately, in 2006 the party literally started to end. Many of the existing nontraditional mortgage contracts become unaffordable to borrowers as variable interest rates adjusted upwards and balloon payments on no-interest loans became due.”

The result — plummeting values for mortgage-based securities as default rates increase and investors shift money to safer investments.

“Investors are wary of putting their money at risk in debt markets, which makes it exceedingly difficult for lenders to obtain the financing needed to originate new loans or lines of credit, even to creditworthy borrowers — the money is simply not there to do so,” he said.

Environmental changes

KeyBank’s Larry Davis, who’s based in Columbus, said the banking environment is changing amidst the latest crunch.

“Banks of all sizes are looking at the capital they have available to loan. It’s more limited than in previous years, so they’re all looking to put their money to the best use — that is, with borrowers that give them a good chance of getting the money paid back, and where [the lender] can charge more for that money,” he explained.

As a result, producers should not be surprised when their banker asks for detailed financial information and cash flow projections before making a loan.

“This reaction by lenders is not likely a response indicating a loss in trust, but rather a requirement from the enhanced regulations of banks,” explained Paul Ellinger and Bruce Sherrick, agricultural economists at Illinois.

“The larger concern for agricultural lenders will be the impact of the current economic downturn on profit margins for producers,” they said.

Still OK

In light of the economic downturn, neither KeyBank nor Farm Credit Services of Mid-America have seen a climbing trend in farmers and agribusinesses coming to them for short- and long-term loans.

“With prices having been very good, farmers seem to have purchased replacement equipment out of their regular cash flow so they’re not looking for that kind of loan. Of course for expansion, they’ll still need some ag lending to cover it,” Davis said.

Farm Credit’s Bill Medley said he’s heard speculation that some banks who are “not as attuned to agriculture” may be getting out of ag lending altogether.

“Farm Credit and other rural banks are still loaning. Nobody is backing up at all,” he said.

“We’re expecting slower loan demand in the next couple of months, but we’re keeping the pipeline of credit open to rural America.”

Immunity

Some experts say farmers and the agricultural industry in general have been somewhat immune to the strains of the financial crisis, but KeyBank’s Davis disagrees.

“We’ve been exposed probably just as much as any industry,” Davis said, but noted the hit to the pocketbook might have been lessened by cushions farmers built after collecting record commodity prices over the past year or so.

“There’s been a lot of income for farmers over the last couple years, and it’s been managed. However, the cost of production is also up significantly in the past 24 months,” he said.

“A farmer’s risk is probably higher,” he said.

Going ahead

Davis also offered tips for farmers headed to their ag lender for help:

Approach the lending institution with good records, financial statements, and books in order.

When asking for money to cover 2009 crops, be sure to bring accurate and realistic projections.

Remember to factor in increased seed, fuel and fertilizer costs, as well as rental fees, if necessary. When possible, lock in costs to help hedge your bets on both the input and income sides.

Farm Credit’s Medley said it appears with the recent fall in oil prices that fuel and fertilizer costs may come down, as well, so it may pay to hold off a bit on locking in those contracts.

About the Author

Former staff reporter Andrea Zippay wrote for Farm and Dairy from 2001 to 2009. More Stories by Andrea Zippay

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