17 Land Investments
Lindon Robison
Learning goals. After completing this chapter, you should be able to: (1) describe land’s unique investment characteristics; (2) understand how land’s endurable nature affects its price variability; (3) recognize how transaction costs reduce the liquidity of land investments; and (4) evaluate land investments using present value (PV) models developed earlier.
Learning objectives. To achieve your learning goals, you should complete the following objectives:
- Learn what makes land distinct from other types of investments.
- Learn why land prices are so volatile compared to other investments.
- Learn how to distinguish between real and nominal discount rates.
- Learn how to distinguish between inflationary and real growth in earning rates.
- Learn how expected growth rates in earnings from land are capitalized into land values.
- Learn how to find the real growth rate for land.
- Learn how to calculate the maximum bid (minimum sell) price for land.
- Learn how transaction costs associated with buying and selling land influence land’s liquidity.
- Learn how taxes influence the maximum bid (minimum sell) price for land.
- Learn how to find the tax adjustment coefficient for investments in land.
- Learn how to use land price-to-earnings ratios to predict adjustments in the price of land.
Introduction
Land’s immobility and durability make it unique among investments and deserving of special attention in PV analysis. Land’s immobility means that it cannot be moved and its services must be extracted by those physically on site. Durability means that land has the capacity to provide services over time without significant change in its service provision capacity.
Earlier, an asset’s liquidity was defined as it nearness to cash. One dimension of an asset’s liquidity depends on the form of its earnings—cash versus capital gains (see Chapter 13). In this chapter we discuss a different dimension of liquidity—the cost of converting an asset to cash through its sale. Land’s immobility makes land less liquid than assets that can be moved because land cannot be moved to meet the convenience of the buyer. Land’s immobility also limits the potential buyers to those near enough to the land to extract its services. Another reason that land is illiquid is because buyers and sellers pay fees to complete its purchase and sale, including Realtor fees, legal costs of changing and recording its title, and other related fees—but not to each other. Evidence of farmland’s low liquidity is its infrequent transfer. On average, only 2% to 3% of the privately owned farmland in the United States is sold each year.
On the other hand, lenders prefer land as collateral for loans for the same reason that makes land illiquid—its immobility. Land’s immobility reduces the riskiness of it being stolen, hidden, or moved. Lenders also prefer land as collateral for loans because of its durability, which reduces the riskiness of it losing its value as securit