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NAB warns that farmland property is running hot

Market commentators have been saying for years that asset prices around the world are getting to very elevated levels. Paintings, cars, boats, share markets and house prices have all broken records in recent times.

If you asked someone in those industries if that asset class was overpriced they would probably say no.

So, it was very interesting to see that National Australia Bank Ltd’s (ASX: NAB) head of agricultural property, Khan Horne, was quoted by the AFR saying that “the market is running hot, there is no doubt about that.

“Our core business is lending to Australian primary producers who expand, buy next door, buy brothers and sisters, parents out and I have never seen it the way it is.

“When a property goes up to auction, there might have been two customers wanting to bid five years ago. Now there are eight customers who want to go bid at that auction.”

Some of Australia’s richest people have ventured into the farmland industry, such as Gina Rinehart and Gerry Harvey through Harvey Norman Holdings Limited (ASX: HVN).

There have also been some monumental farm deals done, such as the $386.5 million purchase of the S. Kidman & Co estate.

How does that affect the share market? One of the most popular real estate investment trusts (REITs) in recent times is Rural Funds Group (ASX: RFF). It has generated wonderful returns for shareholders with the share price growing by 73.7% over the last two years to today’s $2.38, plus the attractive quarterly distribution.

However, the adjusted net asset value per unit in its latest update was only $1.58. That means the share price is currently trading at a premium of around 50% compared to the underlying assets.

Foolish takeaway

Rural Funds has high-quality assets and I believe it is worthy of a premium to those assets, but 50% seems extremely excessive. Current investors only seem concerned with the income that is being produced, rather than the value of the farmland itself.

If Khan Horne is right, then Rural Funds could also be running far too hot for its own good. I’m happy to hold my Rural Funds shares for the long-term, but I wouldn’t buy any shares until the premium has significantly reduced.

Until the Rural Funds shares are trading cheaper, I’d rather look at business with growing dividends like this one.

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Motley Fool contributor Tristan Harrison owns shares of RURALFUNDS STAPLED. The Motley Fool Australia owns shares of and has recommended RURALFUNDS STAPLED. The Motley Fool Australia owns shares of National Australia Bank Limited. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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