Mass. pension fund bets aggressively on timber
But moves coming amid volatile times in lumber industry
By Andrew Caffrey, Globe Staff, 9/19/2003
The Massachusetts state pension fund is making a huge bet on stately stands of Douglas fir in the West, piney woods in the South, and hardwood forests in the Northeast.
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State pension officials have purchased almost half a million acres of timber in the past two years and are planning to pour hundreds of millions of dollars more, making Massachusetts one of the most aggressive buyers in a hot sector that is drawing lots of new investors. The timber investment is part of a broader effort by Massachusetts to diversify the pension fund's holdings and lessen its dependence on whipsawing stock prices.
But the bold bet comes as the volatile timber industry faces an uncertain future. Increasingly global competition pressures prices, and the boom in the lumber-dependent housing market appears to have peaked, which could temper future demand for wood even as the United States and foreign economies recover. There are a large number of properties for sale now, and at least one veteran investor in the sector, the giant California state pension fund, or Calpers, is selling off holdings amid signs that investment returns may not approach double-digit returns for a while.
Massachusetts' own real estate consultant, the Townsend Group, sounded a note of caution in a July report when it said "underlying fundamental market conditions are generally difficult" and recommended the agency "invest selectively and after careful due diligence."
In June the Massachusetts Pension Reserves Investment Management Board voted to increase its investments in timberland to 5 percent of the $29 billion fund, up from 2 percent. At current values, that would give the state more than $700 million to spend on new acquisitions. Officials see timberland as a counterweight in its portfolio, one that will perform well when other investments such as stocks don't. Bedides the potential for appreciation in land prices, sales of lumber from the properties provide an ongoing income that can make timber a stable investment.
Massachusetts first began testing the timber markets in late 2001, and its most recent one-year return for its holdings was an eye-popping 15.5 percent, making it the second-best investment in the pension fund behind high-yield debt.
"We've done pretty well with it," said Doug Rubin, a top aide to state Treasurer Timothy P. Cahill, who chairs the pension board. "In our bid to diversify, timber kept popping up as a place to be investing more."
Right now, there is a lot to choose from, with a record 6 million acres expected to change hands this year, according to Paperloop's Timberland Markets Reports, an industry newsletter. After a stint of mergers and acquisitions, major forest product companies are hurriedly selling off timber holdings to pay down debt. MeadWestvaco Corp. said it is exploring the sale of 636,000 acres of forests in Maine and New Hampshire. In August alone, the Massachusetts pension agency bought 101,660 acres in New York, Pennsylvania, and Texas, with a value of $219 million.
"If people are looking to get out, clearly that's a good opportunity for us," Rubin said. "But we're not going to rush it, and we're not going to buy property just to get to a 5 percent level."
Boston is already something of a center of timber investing. Big investors in the sector include Harvard Management Co. and the Boston firm of Grantham, Mayo, Van Otterloo & Co., whose chairman, well-known value investor Jeremy Grantham, is bullish on the sector. Massachusetts officials point out that those two veteran firms' continued interest in timber provides validation for the state's decision.
Also, Hancock Timber Resource Group, a subsidiary of John Hancock Financial Services Inc., is the leading manager of timber holdings for institutional investors and is running the sales of Calpers' holdings in the South and Northeast.
At its peak, Calpers had $1.2 billion in timber properties, mostly in the United States. But since first buying woodlots in 1988, Calpers' timber holdings had appreciated so much they vastly exceeded the target limits the pension fund had set for this investment class. So now, Calpers is in the process of cutting its holdings almost in half. In November it sold its Western properties, some 226,000 acres in Oregon and Washington state, to Massachusetts for $401 million.
Calpers said the sales are strictly driven by a need to re-balance its portfolio.
But the heyday of heady returns may be over for a while. Since 1988, Calpers' timber investments returned 11.7 percent, before adjusting for inflation. But more recently, the pension fund has lost 2.7 percent over a three-year period, and lost 1.9 percent over the year ending March 31. Meantime, industrywide, the most widely followed index of timberland investment had a return of just 1.88 percent last year, after falling 5.24 percent in 2001. This, after posting double-digit returns every year from 1988 to 1997, including 37 percent gains in 1989 and 1992.
The underlying markets for timber haven't been great. The industry has struggled with too much wood, especially from giant mills in Canada, growing global competition from producers in Europe, for example, while demand from Japan has fallen sharply. Lumber prices had been bouncing around for years, mostly downward, despite the housing market in the United States experiencing one of the greatest booms in US history. Prices have rallied only in the last few months, after plant owners shuttered mills, wet weather and forest fires reduced harvests, and the weak dollar discouraged foreign producers from selling here.
The sudden spike shows just how quickly the underlying fundamentals can change -- for better or worse. The outlook for the industry is "a little more cloudy," said Keith Balter, who follows timber for Resource Information Systems, Inc., a forest products forecasting and consulting firm in Bedford.
What's helped is a surge of new buyers for timberlands, including other pension funds and rich investors, that, like Massachusetts, want to diversify their portfolios. While that has kept land prices from hitting bargain-basement levels, it also signals a healthy interest in timber that could boost returns going forward.
For now, Massachusetts is ratcheting down expectations. The agency is now expecting timber to average around 7.5 percent over the next 10 years, just below its expected return on stocks.
"You're always going to have ups and down," said Rubin. "We're not trying to time the market here. We believe this is a good long time investment."
Andrew Caffrey can be reached at caffrey@globe.com.
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