Highlights

• Inventory at record high. Malaysia palm oil inventory stood at 2.83m tonne (+7.3% mom, +30.8% yoy) as at end Oct 15, as CPO production growth outpaced exports growth. This was way above market expectation of 2.72m tonne.

• CPO production surprised the market. CPO production increased by 4.0% mom to 2.04m tonnes (+7.6% yoy) in Oct 15. This was against market expectation of weaker production in Oct 15. However, production is likely to slow down going forward during low production season and affected by the lagged impact from previous adverse weather condition. Sabah’s production would be affected by the lagged impact from 1H15’s dry weather while Peninsular Malaysia’s production would be affected by the lagged impact from last year flooding in the East Coast.

• Weak export growth going forward. According to Societe Generale de Surveillance, Nov 1-10 exports was down by 3.3% mom to 450,670 tonne. The slowdown in exports was mainly due to weaker demand from China, EU, Pakistan and USA. Despite the surprised export growth in Oct 15, we expect palm oil export to slow down moving forward as we enter the winter season.

• High inventory to stay until 1Q16. The inventory level is likely to stay high for the remaining 2015 during low demand season. High inventory level will cap CPO price movement in near term. We expect better CPO prices in 1Q16 when inventory level come off as demand pick up.

• We are maintaining our average CPO price forecasts of RM2,300/tonne and RM2,400/tonne for 2015 and 2016 respectively.

• We maintain our Neutral stance on the sector.

Catalysts

• 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.
• Escalating production cost (in particularly, labour cost).

Rating

NEUTRAL

Positives

• Long term sector outlook remains favourable.

Negatives

• Weak demand and high inventory in near term.

Top picks

• CBIP (BUY; TP: RM2.10)

Source: Hong Leong Investment Bank Research - 12 Nov 2015