Nov 14, 2016 12:36:25

Regional Plantation: Disappointing Output Supports Bullish CPO Price Signal

Malaysia’s CPO production unexpectedly fell MoM in October, which combined with a small reduction in exports, resulted in a minimal rise in inventory. This indicates that production should taper off from hereon, having peaked in September, providing a short-term bullish signal for CPO prices. We now expect prices to remain strong until 1Q17, when signs of a production recovery take place. No change to our NEUTRAL sector call, with Top Picks KLK, Sime Darby, Golden Agri and London Sumatra.
¨ Malaysia’s CPO production fell 2.2% MoM in October, while YTD production decline widened to 15.6% YoY. This was an unexpected decline, which could indicate that the peak production period is over in Malaysia, having peaked in September. We understand that production in Indonesia could still be on the rise in Oct/Nov, as El Nino hit Malaysia first before affecting Indonesia.

¨ Exports fell in October (-1.4% MoM), as China continued to utilise its rapeseed oil and soybean stocks. Exports to China saw a MoM decline of 5.2% in October, while exports to India and the US fell by22.2% and 10.1% respectively.

¨ Malaysia’s YTD-Sep exports dropped 7.3% YoY, with wider declinestoChina (-29%), India (-15.4%), US (-13%) and the EU (-12%). We expect demand from India to improve in the coming months,due to the change in import taxes, while China should see some festive demand prior to Chinese New Year.

¨ Inventory rose 1.8% MoM to 1.57m tonnes in Octoberdue to lower exports, bringing the stock/usage ratio to 8.4% (Sep: 8.3%), below the 12-year average of 10%. With a likely slowdown in production and higher exports, inventory should remain rangebound over the next few months, ranging 1.5-1.8m tonnes.

¨ Recent developments:

i. South American soybean planting partially delayed due towet weather in Argentina and Brazil.Planting is at 6-8% of the intended area currently, vs the 12-16% average. If this continues, it would help reduce high soybean stocks caused by four years of bumper crops in the US;

ii. China’spalm oil imports remain weak, down 38.4% YoY in YTD-Sep, due to high stockpiles–6.2m tonnes of soybean, 3.5m tonnes of rapeseed oil. We understand China plans to release 0.1m tonnes of rapeseed oil into the market per month, which would continue to dampen demand.

iii. India’spalm oil imports fell 10.3% YoY in YTD-Sep. However, this should improve due to the recent cut in import taxes favouring palm oil. We expect palm oil’s market share to rise from the current 56%, while there should also be some switching back to buying crude vs refined oils.

¨ Still NEUTRAL. Given the unexpected reversal of output in October, we now believe Malaysian output is likely to disappoint for the rest of 2016 and 1Q17, as it plateaus off from the seasonal peak. This would result in CPO prices remaining at stable levels of MYR2,600-2,900/tonne for the next few months. After 1Q17 however, production is expected to recover more significantly, thereby lowering CPO prices. We keep our MYR2,500/tonne CPO price assumption for 2016-2017. Our regional Top Picks remain Kuala Lumpur Kepong, Golden Agri and London Sumatra.We also like Sime Darby as a restructuring play. (Hoe Lee Leng, Hariyanto Wijaya, CFA, CFP, CA, CPA)