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Real Assets in Challenging Times

Investing in a brighter tomorrow

Hilltop view of farmland during sunset

Despite the uncertainty in the financial environment of 2020, real assets continue to provide the opportunity for attractive long-term total returns and inflation protection, and offset the volatility of equity and fixed-income investments. This asset class — which includes agriculture, timberland, commercial real estate and energy — offers an opportunity for investors seeking to balance uncertainty with stability as we optimistically move forward to the year ahead.

For investors wishing to leave a legacy, specialty assets may provide the ability to pass on something real, tangible and valuable to future generations. Real assets can additionally assist in creating positive social change as they offer the opportunity to invest in sustainable and environmentally sensitive resources. In summary, specialty assets may be a solid investment that helps investors “do well while doing good,” even in the most challenging times.

"Real assets are in phase 1 of a multi-phase evolution. In our view, real assets should continue to provide diversifying characteristics to a portfolio, especially during short-term extreme volatility in the capital markets, and increasingly the potential for return opportunities in the years ahead."

Chris Hyzy Chief Investment Officer Merrill and Bank of America Private Bank


Continuing progress on economic reopening, growth, earnings, and monetary and fiscal policy should remain the biggest drivers of market direction. Despite this uncharted path, real assets have remained stable, and opportunities are presenting as we move forward with expectations for recovery and growth ahead.

The rolling and unprecedented landscape crossed in the first half of 2020 came to a close as markets showed signs of resilience despite a backdrop of a resurging pandemic and continued uncertainty on economic, political and global fronts. Equities, down more than 30% on the year in late March, recovered as a result of the extraordinary fiscal and monetary response to the pandemic as well as optimism about a vaccine, rallied to finish the first half down just 3%. U.S. gross domestic product posted the sharpest downturn since the 1940s. Emerging consensus has indicated that the worst of the pandemic may be behind us, though the shape of the recovery is still unclear.

We expect global economic growth to improve in late 2020, with potential rebound and continued growth in 2021 as well. In addition to the benign cyclical environment, various structural trends are projected to drive demand for real assets in the long term. Supply constraints should also drive land values higher as industrialization and climate change threaten the world’s supply of arable land. These supply-side pressures highlight the importance of global trade for meeting worldwide agricultural demand and combating food insecurity. The USDA projects that, over the decade, the total population that is food insecure across low- and middle-income countries will decline by 45%. U.S. agricultural trade is key to meeting these targets, but rising trade barriers and protectionist policies could undermine U.S. exports. An escalation of global trade tensions remains a key risk to watch.

Amid heightened economic and geopolitical uncertainty, investors focused on the long-term horizon can use real assets as a way to increase portfolio diversification while potentially generating favorable risk-adjusted returns in the long run. In addition to providing uncorrelated returns in a volatile market, these assets may also serve as a hedge against inflation, generate cash flow and, in some cases, provide tax advantages for high-net-worth investors.

Although the coronavirus (COVID-19) and weather impacting crops bore down on the farm sector in early 2020, the current environment remains supportive of agriculture, and there’s reason to be cautiously optimistic moving forward. Commodity prices are rebounding, and farmland rents and values have remained steady, supported by low interest rates. In addition, global consumption trends and demand for farm exports point to a positive long-term outlook.

The flight to the suburbs initiated by COVID-19 drove lumber consumption for residential construction, but wildfires and beetle infestations took their toll on production. The steady demand for housing and a recovering global economy, including stabilized trade relations between U.S. and China, will be important factors for the timber sector moving forward.

The oil and gas sector saw a historic drop in demand due to global shutdowns and changes in lifestyle brought on by the pandemic. Prices plummeted as a result, hitting a historic low in April, and causing the industry to shift into survival mode. Many were forced into bankruptcy, and the negative impact is likely to spill into 2021, with the recovery of the world economy the big factor in energy resilience.

Commercial Real Estate
CRE took a big hit as hotels, retail and offices were hit by lockdowns, and employers embraced stay-at-home strategies. Other property types including multifamily were also adversely impacted while cash flow variability due to reduced rent collections and pro forma bad debts have been top of mind for investors. As states continued opening, CRE markets also started coming back. And, in this yield-starved, low-rate environment, CRE should benefit from continuing low interest rates driving investor allocations to the sector and helping to keep cap rates relatively low.


2020 has been an unprecedented year for many industries, and agriculture is no exception. The year began with renewed optimism as significant progress was made on trade. Then everything changed with the arrival of COVID-19. Demand disruptions temporarily impacted corn and soybean consumption, and this uncertainty led to a dramatic pullback in commodity prices over the first half of the year. The sense of optimism for 2020 appeared to vanish just as quickly as it arrived. Fortunately, commodity prices, especially soybeans, came roaring back in the third quarter. This price recovery, along with continued strong demand for farmland, has given many agricultural investors a renewed sense of optimism, albeit cautious, for the remainder of 2020 and into 2021.

Despite the challenging first half of the year, the current environment is supportive of agricultural investments and commodity prices. Additionally, the weaker dollar has made U.S. commodities more attractive to many key export markets, including China, which has returned as a primary purchaser of U.S. agricultural goods. If the pace of export demand and global economies continue to recover, the positive outlook for corn and soybean price recovery is likely to strengthen throughout the remainder of the year.

Net farm income and net cash farm income, 2000–20F

A chart of farm income and net farm income from 2000 to 2019 from the USDA.

Notes: F = forecast. Values are adjusted for inflation using the gross domestic product deflator, 2020 = 100. Data as of September 2, 2020.

Source: USDA, Economic Research Service, Farm Income and Wealth Statistics.

Despite all of the challenges this sector faced in the first half of the year, the current environment is supportive of agricultural investments and commodity prices.

Harvest data and the impact of this year’s crop production on projected carryout supplies for the 2020–2021 marketing year are among the key factors everyone will be eyeing in the fourth quarter. Large crops are still expected, but production estimates have continued to decline as weather events, like the “derecho” wind event in Iowa, and dry conditions in August, reduce U.S. production expectations. The balance of supply and demand bears watching through the remainder of the year. The potential risks of a “lower for longer” scenario for U.S. commodity prices due to large production and lower demand appear to be somewhat diminished. Longer term, the ratio of farm debt to total farm assets— which has inched up over several years to about 14%— is worth watching as an important financial health indicator for the sector.

Despite significant uncertainty that has helped define 2020, farmland rents and farmland values have largely remained steady as many areas experience strong investor demand for farmland given its attractiveness as a non-correlated, income-producing investment.

Looking Ahead

Long term global secular trends are driving demand for farm commodities and the productive land on which they grow. Long term, strong tailwinds from a growing world population, rising middle class in emerging markets, technology-driven agricultural productivity enhancements, shifting consumption trends and a finite global supply of arable land support a positive outlook for the farmland sector (FRM).

Low rates can be very good for FRM by making long-term future cash flows worth more on a present value basis; and should low interest rates become a harbinger of inflationary pressure, FRM also has pricing power such that changes in commodity prices, rents and ultimately, land values, are directionally consistent with increases in inflation.


Prior to the COVID-19 pandemic, the housing market had been continuously improving. After the pandemic hit the U.S. in March, growing demand for homes in suburban areas further propelled housing starts and lumber consumption. Coupled with historical-low mortgage rates and a robust stimulus package from the federal government, residential construction is expected to remain positive for the remainder of 2020 as the economy slowly reopens. In addition, increasing demand from millennials seeking to purchase their first homes is expected to continue driving the need for housing.

U.S. lumber offshore shipments to China decreased significantly in 2019 as the trade war escalated. Tariffs on U.S. lumber shipped to China intensified, reaching 30% in September 2019. However, as the two countries opted to stabilize their relationship with the Phase One trade deal, tariff exemptions on U.S. logs and lumber could be granted to Chinese buyers fairly easily by the Chinese government. As the Asian economy starts to recover and post-COVID-19 trade disputes stabilize, we could see a tailwind for U.S. producers in the future. Nevertheless, the depth of the pandemic’s influence on both domestic and global markets is still very uncertain. The recovery pace of the economy will be a key driver of future fiber demand.

Growing demand for homes and home renovations have propelled housing starts and lumber consumption.

A chart of lumber consumption from April to July 2020 sourced from the U.S. Census Bureau

Source: U.S. Census Bureau, July 30, 2020.

With general market uncertainties stemming in part from an unknown COVID-19 recovery pace, we expect there to be an increased flow of capital into the timberland asset class.

Wildfires and beetle infestations continue to limit the fiber supply coming from Western Canada. In the meantime, the preliminary decision on lumber trade negotiation between the U.S. and Canada was set to be implemented in August, but has been delayed due to COVID-19. The U.S. Department of Commerce announced that duties on Canadian lumber are preliminarily set to decrease from 20% to 8%. If this takes effect, Canadian producers are expected to increase their exported volumes into the U.S., to the extent that their diminished inventory can support the move. They will, however, need to weigh the U.S. and offshore markets (including China and Japan) as their outlet options. Consequently, U.S. producers might see more competition from Canadian suppliers in the domestic market but less so in their offshore markets. Spruce beetle damage in Central Europe had caused accelerated timber harvesting in the region to salvage wood and control infestations. Since U.S. domestic markets observed record-high lumber prices, European suppliers had been pushing more timber volumes into the U.S. market. Nevertheless, European producers may see growing competition coming from Canada.

Looking Ahead

While the calamities of 2020 continue to have impacts on broad sectors of our economy and our nation, long-term optimism is warranted for timber markets. Short-term uncertainties aside, strengthening housing starts, shifting e-commerce and online shopping practices, new product technology, and tax and wealth planning benefits form the basis for attractive long-term performance in timberland markets. Combine this with a sustainable and renewable product and the intrinsic benefits of carbon sequestration, timberland has both investment and social attributes that contribute to the betterment of society.


The year began with a positive outlook as the mid-stream infrastructure and export capacity issues that had restricted the industry over the past few years started to fade. Commodity prices were in the mid-to-highThe year began with a positive outlook as the mid-stream infrastructure and export capacity issues that had restricted the industry over the past few years started to fade. Commodity prices were in the mid-to-high $50/barrel range, with leasing and permit activity in major shale plays on an uptick. The arrival of the COVID-19 pandemic and global shutdowns created a historic drop in global oil demand of roughly 30% from the 100 million barrels per day (b/d) consumption level at the beginning of the year. This shock to the market sent prices plummeting, and reached a historic low in April.

The global and domestic recovery, ease of lockdowns, increase of domestic and global travel and the 9.7 million b/d cuts by OPEC+ countries helped encourage supply/demand factors to stimulate commodity price recovery. The industry pivoted its focus into survival mode — cutting rig count, extending leases, curtailing and shutting-in production. Even with these survival tactics in play, bankruptcies in the U.S. oil industry continue.

Tracking the wave of oil prices in 2020

Chart of oil prices from April 2020 to September 2020 sourced from Macrotrends LLC as of October 13, 2020.

Source: Macrotrends LLC, October 13, 2020.

Looking Ahead

Going into the back half of the year, global demand recovery has slowed, and demand levels will likely return to just over 90 million b/d, a reduction in demand of 9.5 million b/d from pre-COVID-19 levels. OPEC said the pandemic’s negative impact will also spill into the first half of 2021 due to a slower-than- expected recovery in transportation fuel demand. Consumer behavior, such as online shopping and new corporate policies like work-from-home benefits, have also contributed to the slower recovery in oil demand. Pressure will be on OPEC and allies to maintain steep production cuts. The path forward for recovery will depend on the development of global and domestic economic reopening, as well as the industry’s ability to adjust to a slower-than-predicted road to recovery.

Commercial Real Estate

Commercial Real Estate (CRE) markets were mature at the start of 2020, and deep into the cycle with asset-level pricing at or through peaks of the prior cycle, vacancy rates at or near cycle lows, new supply generally balanced with then current demand and debt and equity available but not reaching. Also, key trends centered on demographics, e-commerce and innovation were firmly in place and increasingly reflected in both tailwinds and headwinds in certain property sectors and regions. Enter Q2: CRE markets were adversely impacted by the rapid and severe recession caused by demand-side shock from COVID-19.

Certain sectors and markets have rebounded since then and trend toward long-term averages, while others have largely gone the other way with potential permanent, structural changes. Moreover, stress is building in CRE markets and will surface — in some sectors and regions more than others— before CRE can fully stabilize and reflect benefits of continuing low interest rates and reflationary global pressures.

Breaking it down

Geography — On a macro level, low-cost, low-friction cities and states demonstrating good prospects for long-term fiscal health likely win as magnets for people, jobs and capital.

On a micro-market level, suburbanization perhaps reverses pre-COVID urbanization trends, thus driving demand for housing, offices, logistics and even retail in densifying suburbs.

Hotels — COVID-19 demand shock resulted in leisure travel, business travel and international travel quickly grinding to a halt, causing hotel occupancy and revenue per available room to plummet. A higher beta sector, hotels respond well during an expansion, however there are critical factors working against a normal recovery this time: heading into COVID-19 the sector had a significant new supply pipeline; until travel comes back, ramping sector occupancies overall may be challenging; and social distancing and hotel management practices may result in a reduction of nightly available rooms for the near to medium term.

Retail — Perhaps there is just too much space: per capita square footage is about 24 square feet in the U.S. versus roughly five square feet in Europe. Resulting from ramped-up e-commerce, store closures and bankruptcies are increasing, a pre-existing condition exacerbated by COVID-19. Systemic impacts occurring in retail may eventually result in distressed, high-vacancy properties. Certainly not all retail is problematic but there appears to be excess space, largely in functionally obsolete configurations and challenging locations.

Office — Susceptible to unforeseen disruption from COVID-19, with potential systemic implications of its own, densification that has been on-going for decades is likely to change. Shared or flexible office models will encounter speed bumps as firms determine space needs— how much, where, what type, what design. Offices are important as they drive corporate culture, teaming, creativity, innovation and idea generation. But going forward, offices will likely experience softness as an evolving mix of in-office and work-from-home strategies are applied.

Multi-family — These units will experience key challenges in the near term. Historically, rents and occupancies tend to decline the least and recover before other major property types. Because it’s housing, it’s defensive, but it’s also closely linked to jobs, and U.S. employment has been rocked with unprecedented levels of unemployment in a short period of time. The government stimulus, however, helped smooth performance edges as rent collection experience has been better than expected.

Industrial/warehouse — E-commerce and global-to-local trends accelerate and support the warehouse sector long term. The industrial value chain increases with closer proximity to the final customer, who benefits most from growth in e-commerce and represents infill and often supply-constrained locations with high barriers to entry — perhaps a prime example of new-age CRE.

Commercial Real Estate appreciation returns exhibit a drop in Q2 2020 due to COVID-19 while current returns remain largely steady, consistent with previous recessions over prior 20 years.

A chart of commercial real estate appreciation from 1990 until 2020. This chart exhibits a drop in Q2 2020 due to COVID-19 while current returns remain largely steady, sourced from NCREIF Trends Report and NPI as of June 30, 2020.

Source: NCREIF Trends Report and NPI. Data as of June 30, 2020.

Looking Ahead

CRE recoveries tend to repeat themselves cycle by cycle, without regard to cause of the recession or whether it was a demand- or supply-shock. Recessions induced by the S&L crisis from 1990–92, Dot-com Bust from 2000–01 and the Great Financial Crisis of 2008–09 had different causes, but CRE markets shared similar pathways to recovery and eventual stabilization. It is inside these pathways, in market seams, where you can look for trade-able distress, but it may not come as soon or in as great a volume as many expect.

Triggers of CRE distress historically come in two flavors: asset- and entity-level distress. Either way, cash flow variability collides with leverage. At the asset level, the collision involves an underperforming property, unable to break even after debt service and difficult to re-finance. At the entity level, the collision involves leverage at the enterprise forcing ownership to liquidate performing assets to deliver. With both, volatility is magnified by leverage, increasing default risk and stress. In the current environment it is the impact of the coronavirus, an exogenous event that is the root cause of cash flow variability centering on tenant failures, lower rents and occupancies for many properties. As property values in certain sectors eventually become discounted, the magnifying effect of leverage will eventually surface but likely not in as great a quantity or depth as open-source headlines may suggest.

CRE yielding 5% to 6% generally looks attractive from a relative value perspective, especially given low rates with 10-year Treasurys at roughly 0.85%. Investing in CRE for relatively high current returns compounding over time, diversification benefits and inflation protection.

Low rates can be good for CRE largely because it makes long-term future cash flows mathematically worth more on a present value basis, and should low interest rates become a harbinger of inflationary pressure, CRE has pricing power such that changes in rents, land values and commodity prices are directionally consistent with increases in inflation.

Key tailwinds of e-commerce, near-shoring impact on supply chains, demographics and population shifts all driving 21st-century CRE such as warehousing, rental housing and next-cycle geographies.

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