Note the S curve: A tree grows fastest physically-and reaps its largest economic gains-during its teenage years. After it reaches maturity, both its physical growth and its financial value grow at a slower rate.
While the principles are the same, timber economics differ by species. Douglas fir and hemlock, which grow in the Northwest, are not merchantable until they reach middle age, during the ages of 30 to 45. (They are harvested for saw logs; pulpwood and paper are residuals.) But at maturity (between the ages of 55 and 70) they are four times as voluminous as a Southern yellow pine. That renders their quality, and pricing, superior.
Then there are the old-growth giants. Twenty years ago, such trees commanded premium prices. But while trees grow after their teenage years, they do not grow as fast. So the forest industry, in an effort to maximize profits, no longer grows them and the mills no longer saw these beauties. The market for old-growth lumber has completely disappeared.
The bottom line: Timberland investors maximize returns from biological growth in two ways. First, they buy the forest as it enters its fastest-growing "emerging growth" years, when the timber from the trees is illiquid and undervalued, and then sell as the trees approach their slower-growth but merchantable mature years, when the price reflects the market value of the timber.
And second, investors seek out the fastest-growing, highest-volume trees in the world. For example, New Zealand's radiata pines mature in 30 years-but are three times as voluminous as Southern yellow pine. Eucalyptus plantations in Chile, with real biological returns of 20%, have also been hot.
Forests-The Key To Investing Sustainably
On the surface, it might seem that this tree farm model of timber production, based on the land as an underlying factory, can be "sustainable"-as long as the biological growth of the trees is properly measured and accounted for, and only a small percentage of the trees logged each year. But it has become increasingly clear that, as Ecotrust founder Spencer Beebe writes in his new book, Cache: Creating Natural Economies, "Trees do not a forest make."
In addition to trees, forests provide a host of "ecosystem services"-clean water, flood control, habitats for fish and wildlife, soil building, carbon storage, etc. According to the United Nations-backed Millennium Ecosystem Assessment (2005), there are 24 main ecosystem services-most of them found in forests. Another United Nations-backed project, the Economics of Ecosystems and Biodiversity (TEEB), has estimated the negative externalities from forest loss and degradation at $2 trillion to $4.5 trillion per year-an amount equivalent to nearly half the U.S. GDP.
As a result, there is a growing interest in investing in bona fide forests with their ecosystem services intact-not just timberland and the wood it produces. Although this is still a nascent movement and different models are emerging that reflect in part the various characteristics of disparate ecosystems and forests, they are generally based on partnerships between nonprofits and private investors, and often consist of tax credits and other types of public finance.
In the U.S., the pioneer in this field is Peter Stein, managing director at the Lyme Timber Co., based in Hanover, N.H. In January, the company closed Lyme Forest III, a $160 million fund that attracted nearly half its capital from families and institutions with an impact bent. Although Stein will not disclose his track record, he says the total returns from Lyme's first two funds were 10% to 25% higher than those for conventional timberland investments.
Lyme's secret sauce: a creative use of "working forest conservation easements," along with a sprinkling of old-fashioned financial engineering using new markets tax credits where applicable and the occasional sale of ecosystem services such as carbon or "mitigation banks." Mitigation banks are offsets against habitat damage and loss caused by development. They generally involve restoration and the protection of additional lands.