Highlights

Lowest inventory since Jun 13. Inventory in Feb 14 declined for the second straight month (by 14.2% mom) to 1.66m tonnes, lower than 1.8m tonnes projected by the consensus. The lower inventory was due mainly on lower output, which more than mitigated a slight decline in exports.

Exports declined by 1.2% mom to 1.35m tonnes, mainly on lower exports to China (-15.8%, could be driven by the country’s current high palm oil stock level), Netherlands (- 45.7%) and the US (-55.1%). We note that exports to other key markets (such as India and Pakistan) remain subdued, and this could be due to the high CPO prices, resulting in switching to other competing edible oils. Intertek reported that palm oil shipment for the 1st 10 days of Mar 14 declined by 5% to 294k tonnes.

Total output continued to decline (by 15.3% mom to 1.28m tonnes), as oil yield declined to 0.26 tonnes/ha from 0.3 tonnes/ha in the previous month.

Looking ahead… We believe the inventory level in Mar 14 will likely increase from Feb 14, as: (1) Low production season typically ends in Feb, and resume uptrend after that; (2) Exports will likely remain weak in Mar 14, on palm’s narrow price discount against the soy oil (see Figure 8, which may result in major edible oil consumers switching to other competing oils), and high CPO stock level at China’s ports (see Figure 9).

All eyes on weather. For now, we are maintaining our average CPO price forecasts for 2014-2015 at RM2,700/tonnes, pending more convincing evidence that supports the occurrence of a severe El Niño event.

Catalysts

• Earlier-than-expected recovery in the world’s major economies, resulting in higher edible oil demand and prices;
• Timely implementation of higher biodiesel mandate in Indonesia and Malaysia.
• Weather uncertainties revisit, which would result in supply distortion, hence boosting prices of edible oil.

Risks

• Higher-than-expected soybean yield and soybean planting, resulting in lower soybean prices, hence prices of CPO.
• India imposes higher import duty on CPO.

Rating

NEUTRAL

Positive – (1) Improved demand outlook; and (2) Better production cost visibility.

Negatives – (1) Price attractive of CPO diminishes; and (2) Pricey valuations for the sector.

Top picks

For exposure in the sector, our top pick is Genting Plant (BUY; TP: RM12.20).

Source: Hong Leong Investment Bank Research - 11 Mar 2014