Friday, March 29, 2024

Report highlights farm loan risk

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New modelling by the Reserve Bank has revealed cashflow on a third of all dairy farms would turn negative in the event of a sustained but moderate fall in milk prices. The central bank modelled the impact on dairy farm loans of a milk payout of $5.50 per kg of milksolids for five years.
NZX takes a look at the week that was in the dairy industry.
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The exercise conducted with the help of the Ministry for Primary Industries was revealed in the Reserve Bank’s latest twice-yearly health-check of the banking system.

While some way short of Fonterra’s final payout prediction for the current season of $7.90/kg MS, the figure used is only moderately below the co-operative’s average payout of the last five years of $6.04/kg MS.

The scenario it was calculated would result in a third of dairy farms facing negative cashflow and of those half would require some form of debt restructuring.

“The draft results indicate that while the sector overall has been gradually deleveraging, dairy debt is highly concentrated and pockets of vulnerability to a milk price downturn or a drought remain,” the bank’s May Financial Stability Report said.

A Reserve Bank spokesperson says the analysis was carried out earlier this year and the full results would be released separately later this year.

Elsewhere in the Financial Stability Report the bank noted China’s rapid recovery from the pandemic had underpinned demand for New Zealand’s main primary exports.

International dairy commodity prices were now above their pre-pandemic highs, and commodity pricing strength had spread to forestry and meat exports.

“Banks have continued to diversify their loan portfolios away from dairy in favour of sheep and beef farming and horticulture, lessening the financial system’s exposure to sector-specific risks,” the bank said.

“While dairy’s share of banks’ agricultural sector lending remains considerable, it has declined from 69% to 63% in recent years.

“Banks are encouraging farmers to take advantage of the current milk prices and low interest rates to pay down existing debt.

“In addition, the number of dairy farms identified by banks as being stressed has continued to decline.”

Figures included in the report show “potentially” stressed dairy loans, to which trading banks’ own internal risk models assign a sub-investment grade credit rating but are not yet in default, fell to 7.2%, the lowest level since at least 2016.

At the same time dairy farm borrowers paying interest plus principal was nearly 20%, the highest since at least 2016 when just 5% of dairy borrowers were on similar repayment terms.

“These trends are helping to build resilience in the dairy sector,” the central bank said.

In the meantime, the Reserve Bank says vulnerabilities remained, including increasingly volatile weather patterns as climate change intensified and the eventual full entry of agriculture into the Emissions Trading Scheme (ETS) in 2025, which would increase farm costs and dent profitability.

“Further potential risks such as surplus overseas milk production, the growth of milk alternatives, bovine and crop disease outbreaks, heavily concentrated export markets, and geopolitical trade tensions have the potential to undermine commodity prices and sector prosperity,” the bank said.

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