Unless you work in the construction or home improvement industry, lumber may not be the first thing that comes to mind as an investment opportunity. It is a cyclical industry largely driven by a strong housing market.
However, despite being a cyclical industry, lumber has provided historical returns that are competitive with other sectors on a risk-adjusted basis. Lumber stocks also carry lower risk and can provide investors with exposure to the commodities sector. For these reasons alone, lumber stocks are worth considering by all investors.
In this article, we will give investors an overview of lumber stocks. Topics covered include why investors should consider investing in lumber stocks and what external factors drive lumber prices up. We’ll also look at some of the best lumber stocks to buy from a historical perspective. And for fund investors, we’ll provide a list of some of the best funds that offer exposure to lumber stocks.
Why invest in wood stocks?
Wood is essential to the construction and renovation industries. Although it is a highly cyclical commodity, it is an industry where investors are more concerned about the high than the low. One of the reasons is that the lumber industry is highly regulated. This keeps lumber prices stable during times of low demand and creates an opportunity for lumber prices to rise during times of high demand.
Integrated option – In times of declining demand, suppliers will generally reduce the number of trees they fell and process. This gives these trees time to grow, increasing their long-term value. However, investors should be aware that not all timber or timber producers own forest land.
Timber prices are a lagging indicator – This means that prices for sheets of plywood or 2×4 panels will rise before many consumers realize how expensive they have become. This encourages investors to take a long position in lumber stocks that they can sustain without attempting to time the market.
Use of wood in other applications – In addition to being used in the commercial and residential real estate markets, wood is widely used in the furniture industry. The packaging industry is also experiencing strong growth (eg corrugated cardboard packaging).
What are the factors driving up timber prices?
Like any commodity, timber prices are influenced by supply and demand. That said, there are several obvious catalysts for lumber prices.
A strong housing market – There are many reasons why the demand for housing is increasing. Mortgage rates play a role, as does the availability of existing homes. However, when it comes to timber prices, investors should pay attention to the number of new constructions (housing starts). When this number increases, timber prices (and timber inventories) are likely to rise. Moreover, this is a segment in which a backlog of projects is accumulating. This means that the demand for wood generally remains stable regardless of the overall housing market.
Renovation request – There is a strong correlation between the demand for new construction and an increase in renovation activity. Simply put, as homes begin to sell (often at a premium to their purchase price), homeowners begin to fear missing out (FOMO). This causes them to fast-track home improvement projects they may have been putting off in an effort to get their home ready for sale. Additionally, when new buyers enter the market, they often spend on renovation activities to make a home their own.
Natural disasters – Following a natural disaster, timber prices may increase as demand in some areas increases to meet the need for reconstruction. On the supply side, the lumber industry is severely affected by wildfires which can limit supply.
Regulation – The timber industry is heavily regulated. This results in fewer trees being felled and a lack of land available to plant new trees.
What are some of the best wood stocks?
Weyerhaeuser (NYSE: WY) – Weyerhaeuser operates as a real estate investment trust (REIT), making the company a low-risk alternative to traditional lumber stocks. The company has 14 million acres under management. And they collect rents from businesses that use these properties.
In addition to the acres they manage, Weyerhaeuser directly owns and operates an additional 12.4 million acres. This is important for investors because it means the company is making money from both sides of the timber trade. And like all REITs, the company pays out a significant portion of its income as a dividend.
spokesman (NYSE: RYN) – Rayonier is another lumber stock that has a REIT model. Rayonier has fewer acres under management than Weyerhaeuser, about 2.4 million acres, but the company continues to make acquisitions to increase its acres under management. However, the company also has gas and oil drilling leases that generate revenue. Like Weyerhaeuser, Rayonier pays a large percentage of its profits as a dividend.
Wooded Waterfall (NYSE: CCI) – Boise Cascade is a choice for growth investors who are bullish on the housing sector. The company is a small-cap company that is on the verge of becoming a mid-cap company. Boise Cascade specializes in the manufacture of engineered wood products such as particle board, heavy load bearing joists and flex beams. Boise Cascade’s business model places a strong emphasis on direct sales to contractors. Ideally, this will allow the company to maintain respectable margins even if the housing market weakens.
West Fraser Woods (NYSE: WFG) – West Fraser Timber offers investors a great combination of growth and income. This is a Canadian company that holds licenses to harvest timber from public forests in Canada. In 2020, the company generated more than 75% of its revenue from lumber. But it also manufactures pulp, paper and plywood panels. In 2021, the forestry company purchased another Canadian forestry company, Norbord. This gave the company access to the world’s largest producer of oriented strand board.
Lowes (NYSE: LOW) – The home improvement store is not a pure play on the lumber industry. But as one of the leading home improvement retailers and committed to servicing the contract channel, it offers investors low-risk exposure to this sector. In fairness, investors can also look Home deposit (NYSE: HD) in this sector. For the purposes of this article, Lowe’s gets the green light because of its status as a dividend aristocrat. In this case, the company has increased its dividend in each of the past 48 years.
What are the best mutual funds/ETFs that include timber stocks?
Many investors choose to use mutual funds and exchange-traded funds (ETFs) as a means of gaining exposure to specific segments. A quality fund is a great way to get diversified exposure at low risk. And there are several funds that offer exposure to this sector. The largest ETF is the iShares Global Timber and Forestry ETF (NYSEARCA: WOOD). As of June 28, 2022, the fund had over $254 million in assets under management (AUM) and an attractive expense ratio of just 0.43%.
Another option is the Invesco MSCI Global Timber ETF (NYSEARCA: CUT). As of June 28, 2022, the fund had over $73 million in assets under management and an expense ratio of 0.61%.
Some final thoughts on lumber stocks
Lumber will continue to have steady demand which is particularly strong when the housing sector is growing. The cyclical nature of the housing sector can drive investors away from lumber stocks. However, it is a product with many applications beyond the housing sector. This request gives investors the opportunity to buy stocks that have a high floor and an even higher ceiling.
And because it’s a highly regulated industry, there are built-in supply constraints that give producers pricing power during times of high demand.
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