Timberland — and the wood fibre it generates — is vital to the global economy. It provides a renewable resource for housing, furniture, packaging, tissue, heat and energy. What’s more, we depend on forests for environmental services like air and water purification.
For many decades, timberland was owned primarily by governments, wealthy families, and corporates. In the 1980s, rising demand for timberland corresponded with the restructuring of the forest products industry in the US, resulting in a shift in timberland ownership from operating companies to financial investors.
In the decades since, timberland has proven itself a compelling asset class offering strong market fundamentals, attractive returns, limited correlation with traditional asset classes, and a reliable hedge against inflation. Now, investors are becoming increasingly conscious of the quantifiable climate benefits that timberland offers.
Driven by trees’ natural ability to sequester and store carbon, those benefits are increasingly valued as climate action ramps up — through voluntary commitments or regulations — and markets for forest carbon expand.
Here are five key principles that provide a fundamental case for investing in timberland.
Strong market fundamentals
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Investing in timberland is a fundamental way to benefit from growing worldwide demand for wood. As populations expand and become wealthier, their large and growing wood demand provides attractive opportunities for timberland investors. Increases in per capita income are expected to be greatest in emerging market countries like India and China, where demand for forest products for domestic consumption and export is expected to rise. In developed markets like the EU and the US, economic growth is also expected to increase demand for wood, increasingly as a low-carbon input to production.
Attractive returns with stable cash yield
Over the past 30 years, US timberland returns have been highly competitive with traditional asset classes. In 1992–2020, timberland outperformed US and non-US fixed income and nonUS equities by 177–377 basis points. Over the same period, US equities had almost twice the volatility of US timberland. As a store of value, timberland has been resilient over the last four US recessions. This long-term resilience is the result of the dual sources of return (capital appreciation and cash yield) and the fact that tree growth is not affected by market volatility or business cycles.
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Portfolio diversification
US timberland returns have exhibited low or negative correlations to equities and fixed income in recent decades. A key driver of this lack of correlation is that a portion of the investment return is generated through biological growth, which is independent of market movements. Payments for ecosystem services, like carbon credits, provide an additional source of uncorrelated return and have the potential to enhance diversification benefits from timberland investment.
Hedge against inflation
Timberland continues to provide investors with a reliable hedge against inflation. Between 1992 and 2020, the correlation between US CPI and timberland was positive and exceeded the correlation between inflation and traditional asset classes. One reason for this is that timberland assets produce the raw materials for many products in the CPI basket of goods, such as building materials, furniture, tissue, paper and packaging. The correlation between timberland returns and inflation has remained reliably positive for many decades, suggesting that as inflation increases, timberland performance should keep pace with or even outpace inflation.
Quantifiable climate benefits
Timberland represents a direct investment in a carbon removal technology. Trees’ natural ability to sequester and store carbon is currently the only proven and scalable technology to remove greenhouse gas emissions from the atmosphere. As demand for low-carbon building materials and sustainable inputs to production increases, demand for timber from sustainably managed forests is expected to grow. Approximately 2.6 billion tons of CO2, one-third of the CO2 released from burning fossil fuels, is absorbed by forests every year. Trees not only remove CO2, but can store it for a century or more.
As an asset class, timberland has the lowest average carbon intensity — or net CO2 emissions per euro invested — among both alternatives and traditional asset classes. An allocation to timberland, with a net negative carbon profile, can balance more emissions-intensive sectors within an institutional portfolio, helping to achieve climate targets efficiently and without having to unnecessarily sacrifice returns. Timberland’s potential to generate verified carbon credits creates additional value. Credits can be monetised to boost financial returns, retained by the landowner to offset their emissions or simply retired. Major corporations such as Apple, Microsoft, Amazon and Google have announced ambitious carbon neutrality goals.
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Corporate demand for forest carbon credits to meet climate targets from companies like these could fundamentally alter production forest management, the size of the investable universe and the timberland ownership framework.
Compelling case
In short: timberland’s low carbon intensity and potential to generate verified carbon credits can help investors efficiently achieve climate targets. And as price pressures return to global markets, timberland’s traditionally high correlation with inflation — combined with the other enduring principles I’ve described here – make the case for timberland investing as strong as ever.
Martin Davies is global head of Nuveen Natural Capital.
