Investment Highlights

• NEUTRAL. We are neutral as there is a balance of positive and negative factors. The negative factors are rising palm supply in Malaysia and Indonesia in 2023F and weak demand from India. However, we believe that these have already been reflected in the fall in the share prices of the plantation companies. Also although India’s demand may be soft in 2023F, palm demand from China and the EU is envisaged to be positive due to the easing of Covid restrictions and shortage of sunflower oil respectively. We do not have BUYs in the palm oil sector. We will re-rate the plantation sector if there is a sharp fall in production resulting from the emergence of an El Nino.

• Average CPO price assumption of RM3,000/tonne for large planters in 2023F. Our assumption accounts for the Indonesia price discount of RM500 to RM1,000/tonne. For the pure Malaysian planters, we assume an average CPO price of RM3,500/tonne. Due to the lower CPO price of RM3,000/tonne in 2023F (2022E average MPOB spot price: RM5,500/tonne) and higher costs of production, sector earnings are expected to fall by more than 30%.

• Maintain 3-star ESG rating. We maintain a 3-star ESG rating for the plantation sector due to environmental risks such as greenhouse gas emissions. On a positive note, we believe that social risks are easing for the Malaysian planters as checks and balances have been enforced through regular audits by independent consultants and RSPO. Planters have also made improvements to workers’ welfare. The large plantation companies have set up grievance mechanism channels and upgraded housing conditions for workers.

Supply Factors

• CPO production in Indonesia to rise in 2023F. Oil World forecasts Indonesia’s CPO production to grow by 2.2mil tonnes in 2023F. Indonesia’s CPO output is expected to recover in 2023F after falling in 2022E. GAPKI (Indonesia Palm Oil Association) estimates that CPO production would decline by 4.1% to 45mil tonnes in 2022E. We believe that the output improvement in 2023F would be underpinned by higher FFB yields. Ample rainfall in 2022 is envisaged to support Indonesia’s FFB yields in 2023F. Indonesia’s FFB yields were affected by lagged impact of 2019’s drought in the beginning of 2022 and floods in the final quarter of the year. Industry proxies such as Astra Agro and Indofood Agri Group recorded YoY declines in FFB production of 5.9% in 9M2022 and 6% in 1H2022.

• Malaysia’s CPO production to improve in 2023F. Oil World expects Malaysia’s CPO production to rise by 0.3mil tonnes in 2023F. We believe that the country’s CPO output would be flat at 18mil tonnes in 2022E. The arrival of foreign workers is anticipated to boost FFB yields in 2023F. IOI Corporation’s labour shortage is envisaged to improve to 20% from 30% in early 2023 as 1,500 foreign workers arrived in Malaysia in 2H2022. KL Kepong’s labour shortage is estimated to fall to 15% from 30% on the back of the arrival of almost 1,500 workers in 2H2022. The arrival of more workers in 1H2023 is expected to boost industry CPO production further.

• Short-term boost in CPO production but long-term growth is muted. Although CPO production is anticipated to increase in 2023F, output growth is envisaged to be unexciting in the long-term. This is due to the decline in new plantings of oil palm. Covid lockdowns and slow RSPO approvals have impeded new plantings in Indonesia while in Malaysia, there was a shortage of workers. In 2021, there were minimal new plantings by the SGX-listed Indonesia companies except for Wilmar International, which carried out 315ha of new plantings. Wilmar had zero new plantings in 1HFY22.

• Global soybean output to improve by 10% to 391mil tonnes in 2022E/2023F. The increase in soybean production is expected to be driven by higher output in Brazil and Argentina. On the other hand, US soybean production is estimated to ease by 2.7% to 118mil tonnes in 2022E/2023F due to the drought. Soybean production in Brazil is anticipated to climb by 19.7% to 152mil tonnes in 2022E/2023F in the absence of dry weather while in Argentina, soybean output is forecast to improve by 12.8% to 49.5mil tonnes.

• Global soybean inventory to rise by 7.4% to 102.7mil tonnes in 2022E/2023F on the back of higher stockpiles in Brazil. In Brazil, soybean stockpiles are envisaged to increase to 31.7mil tonnes in 2022E/2023F from 23.8mil tonnes in 2021/2022E. However in Argentina, soybean inventory is estimated to inch down 1.7% to 23.5mil tonnes in 2022E/2023F due to stronger exports.

Demand Factors

• India’s palm demand may remain soft in 2023F. This is due to an abundance of reserves of edible oils. Also, we believe that India’s palm demand would pick up only when CPO prices fall below RM4,000/tonne. Inventory of edible oils at the ports and pipelines in India stood at 2.8mil tonnes as of 1 December compared with 1.7mil tonnes a year ago. Previously, the highest level of inventory in India was 2.7mil tonnes in June 2018 while the lowest level was 0.9mil tonnes in May 2020. India’s palm imports slid by 4.8% YoY in 9M2022.

• China’s palm demand may improve in 2023F after falling in 2022E. We believe that palm demand from China’s HORECA sector would recover in 2023F after being affected by Covid lockdowns in 2022E. The easing of Covid restrictions is expected to spur economic activities in China in 2023F. Due to the Covid-19 lockdowns, China’s imports of palm products plunged by 47.6% YoY to 1.8mil tonnes in 9M2022. China’s soybean imports fell by 6.6% YoY to 69mil tonnes in 9M2022.

• On a brighter note, EU palm imports may increase in 2023F. On the back of a shortage of sunflower oil, we believe that EU’s palm demand would improve in 2023F. Ukraine accounts for 46% of global sunflower seed production. Palm demand is also expected to be supported by the large price discount of more than 30% to US soybean oil. Looking ahead to 2024F however, EU’s palm demand may decline as palm biodiesel is being phased out from 2025F onwards. EU’s imports of Malaysian palm products fell by 12.3% YoY in 9M2022.

• Huge price discount between CPO and soybean oil prices would support EU’s palm demand. Apart from CPO’s sharper fall in price vs. soybean oil, the price difference between two commodities has been widening due to the appreciation of the USD against MYR. Currently, the price discount is about 35% or US$485/tonne compared with the average of 47% or US$768/tonne in November and five-year average of 19%. Although the discount narrowed in December, it is still above 30%. The price of US soybean oil fell in early-December as the US blending mandate proposed by the EPA (Environmental Protection Agency) on 30 November was below expectations.

• Indonesia to implement B35 in January 2023. According to CNBC Indonesia, President Joko Widodo has ordered B35 to be implemented in 2023F. A government official said that B35 is expected to start in January 2023. Under B35, the biodiesel allocation is expected to be 13.2mil KL (11.5mil tonnes), This is 19.5% higher than 11mil KL (9.6ml tonnes) in 2022E. The biodiesel consumption of 11.5mil tonnes would be about 23% of Indonesia’s CPO production in 2023F.

• Malaysia’s B20 may only be implemented nationwide at the end of 2023F. The increase from B10 to B20 would increase consumption of palm oil by 500,000 tonnes. This is 2.7% of 2023F’s CPO production of 18.4mil tonnes. So far, B20 has only been implemented in Langkawi and Labuan. B20 was supposed to be implemented nationwide at the end of 2022. Currently, B10 in the transportation sector and B7 in the industrial sector absorb about 0.9mil tonnes of palm oil annually.

Source: AmInvest Research - 21 Dec 2022