Funds: The case for timber is solid

Average forest plantation prices in Britain have increased 82% in the last five years. And demand for timber looks to be secure. Managed funds are one way to invest, but they can be expensive.

Forestry is confounding its critics. Average plantation prices in Britain, for example, have increased 82% in the last five years, according to the latest Forest Market Report from UPM Tilhill and Savills. For some investors woodland is green gold a useful hedge when other markets go down. And because timber has historically provided some protection against inflation, demand could soar if global prices tick up. Throw in some generous tax advantages, and is there anything not to like?

Yes. Although land prices are up, the price of timber itself has fallen by between 25% and 30% since the end of 2007, says Roger Adams at Forestry Investment Management. That's largely down to the direct link between housing starts and timber prices British housing starts reached their lowest level since 1924 at the end of 2008.

That said, "unlike a crop of wheat that you harvest in September and take whatever you can get, with timber you can hold out" for a better price, says Adams. Increased demand from fast-growing China, where the government has set aside $141bn (£88bn) for the production of 20 million square metres of affordable housing by 2012, means the long-term trend looks solid.

Meanwhile, the growing wood fuel market in Europe means there is less timber for more traditional uses, such as sawmills and chip-board manufacturing, says Guy Warren of UPM Tulhill, the forestry investment company. There are now over 1,960 installed biomass boilers in England, according to the Forestry Commission. But a new wave of wood-fired power plants in the UK and France will see biomass capacity across Europe grow by 50% by 2013, says a new study by German energy consultancy Ecoprog. So even if the housing market stays subdued, demand for timber looks to be underpinned.

Managed funds are one way to invest, but can be expensive. The £4m First Stellar Forestry Fund (www.stellar-am.com), which invests in British woodlands, has a minimum investment of £15,000 and charges an initial commission of 3%. The £400m Phaunos Timber Fund has a more international focus, investing in everything from eucalyptus plantations in Brazil to New Zealand forestry firms. It expects to be more than 80% invested by the first quarter of 2010. The annual fee is 1.5%, plus a hefty 20% performance fee if the fund beats its target return. A cheaper global bet is the iShares S&P Global Timber & Forestry Index Fund (Nasdaq: WOOD). It invests in 25 major timber and paper firms. Up 30% last year, the expense ratio is 0.65%.

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