Assessing the effects of adding timberland and farmland into resource-based Sovereign Wealth Fund portfolios

Abstract

Sovereign Wealth Funds (SWFs) have been prompted to reconsider their traditional asset allocations given the underperformance of equity markets post-2008 financial crisis and the collapse of commodity prices in recent years. Timberland and farmland investments are increasingly attracting the attention of these funds, seeking higher and more stable returns and means to hedge commodity risk. However, analytical analyses on the effect of these investments to SWFs are still limited. This paper studies the effects of including timber and farmland investments in the strategic asset allocation (SAA) of an oil-based SWF. We model the portfolio of investment of an SWF using Norway's Government Pension Fund Global as a case study, and gathering empirical data for the period Q1 2007-Q1 2016. We examine how allocations in timberland and farmland affect returns, the fund's net growth, and the portfolio exposure to commodity risk. Our results indicate that timber and farmland bring positive effects when supplanting equity investments, improve the return-risk characteristic of the portfolio, and provide hedging again oil risk.

The Long-Term Capital-Market Performance of the Forestry Sector: An Investors’ Perspective

“…Holding a forest asset in an investment portfolio offers many advantages [22][23][24]. The most important are risk diversification [25][26][27] and inflation hedging [6,28]. However, every portfolio is different, which means that adding a forest asset will not have the same effect on improving the risk-return ratio of a portfolio [49].…”

“…In addition, inflation-hedging is another desirable characteristic when possessing a forest asset [6]. This means that a forest investment offers inflationhedging against oil price risks [28].…”

Research trends: Forest investments as a financial asset class

“…Biological growth that affects yield is completely independent of financial markets. Thus, given that returns in forestry are driven by different economic fundamentals than are stocks and bonds, forest assets have little correlation, or even negative correlation, with the prices of financial assets, providing a diversification potential in the mixed portfolio and could improve investment performance (e.g., Binkley, 2019 ; Chambers et al, 2020 ; Lutz, 2018 ; Martinez-Oviedo and Medda, 2017 ; Rubbaniy et al, 2018 ; Wan et al, 2015 ).…”

“…Timberland is often described as an investment that offers a hedge against inflation ( Lundgren, 2005 ; Lutz, 2008 ; Parajuli and Chang, 2015 ; Redmond and Cubbage, 1988 ; Rubbaniy et al, 2018 ; Wan et al, 2013 ; Washburn and Binkley, 1993 ) but also against oil price risk ( Martinez-Oviedo and Medda, 2017 ). This characteristic does not always apply to public-equity assets ( Parajuli and Chang, 2015 ).…”

Sustaining wealth: Simulating a sovereign wealth fund for the UK's oil and gas resources, past and future

“…An increasing number of countries or jurisdictions do appear to view resource funds and/or fiscal rules for resource revenues as an answer to such challenges (Hamilton and Ley, 2011;Cummine, 2016). As Ossowski et al (2008) argue, some combination of a natural resource fund -of which a SWF is one variant -and fiscal rules on the use of resource revenues can reduce pro-cyclical tendencies and provide investments and savings to support future wellbeing in extractive economies (see also, for example: van der Ploeg, 2014, Hassler et al 2015;Clark et al 2013 as well as Segal, 2012, andMartinez-Oviedo andMedda, 2017, for discussions of how to spend resource revenues). 2 Ossowski and Halland (2017) review the functions that SWFs can serve for the fiscal authorities.…”