Highlights

• Inventory level dropped below 2m. MPOB reported Mar 16 palm oil inventory level of 1.89m tonnes (-13.1% mom, +1.5% yoy) on the back of strong exports and domestic consumption despite recovery in CPO production. The inventory level was within market expectation.

• Stronger than expected rebound in CPO production. Mar 16 CPO production of 1.22m tonnes (+16.9% mom, -18.4% yoy) was above market expectation of 1.13m tonnes. CPO production has begun to pick up after the low production season but it was still down 18.4% yoy due to lagged El Nino impact. Going into 2Q16, we expect production to continue to rise and reach its peak in 3Q16. Besides, recent dry weather in Malaysia especially Sabah could have impact on production in 4Q16.

• Gradual pick up in palm oil exports. Demand for palm oil would be better post winter season and for preparation of the upcoming Ramandan festive season in 3Q16. However, Apr 16 palm oil exports are likely to be weak as exporters rushed to shipments in Mar 16 before the resumption of CPO export tax in Apr 16. According to Intertek, Apr 1-10 exports were down by 2% mom to 320,990 tonnes. Besides, narrowing discount gap to soybean oil price would prompt price-sensitive countries such as India and Pakistan to switch to soybean oil .

• CPO price to remain high in 2Q16. CPO price is likely to remain high in the current quarter as inventory continues to be drawn down on low production as well as better festive demand in the coming months. YTD spot CPO prices were up by 22.3% to RM2,691/tonne with an average price of RM2,444/tonne In

Catalysts

• Revisit of weather uncertainties, which would result in supply distortion, hence boosting prices of edible oil.

• Severe-than-expected El Nino impact on FFB yield.

Risks

• Higher-than-expected soybean yield and soybean planting, resulting in lower soybean prices, hence prices of CPO.
• Backtracking of biodiesel mandate in Indonesia.
• Imposition of higher import duty on CPO by India.
• Escalating production cost (particularly labour cost).

Rating

NEUTRAL

• We maintain Neutral on the sector with unchanged CPO Price assumption of RM2,400/tonne for 2016.

Positives

• Long term sector outlook remains favourable.

Negatives

• Weak demand and high inventory in near term.

Top picks

• CBIP (BUY; TP: RM2.30)

Source: Hong Leong Investment Bank Research - 12 Apr 2016