Highlights

• Marginal decline in stockpile… Despite a 6.4% mom decline in output, palm oil inventory contracted at a slower pace (by only 0.2% to 1.67m tonnes) in Dec-16, as lower output was offset by lower exports. Against Bloomberg consensus, the stockpile came in slightly higher than consensus median estimate of 1.62m tonnes

• Output declined for the 3 rd consecutive month… by 6.4% mom to 1.47m tonnes, with Sabah registering the biggest drop in terms of output (followed by Pahang and Johor). On a yoy basis, we note that output rose for the first time since Oct- 15, indicating that the effect of El Nino earlier has started waning.

• Exports declined for the 4 th consecutive month… by 7.5% mom to 1.27m tonnes, mainly on lower exports to China (-27%, due to seasonal factor, we believe) and US (-16.3%). While exports to India have recovered from a multi-months low in Nov-16, we note that exports to India remained subdued (witnessed by the yoy decline of 50%).

• Moving into the following month (i.e. Jan-17)… Stockpile will likely remain on a downtrend, as seasonally lower exports to China will be offset by seasonally lower palm production. While exports to India have bottomed and showed signs of recovery, we believe the recovery will likely be gradual (and unlikely to go back to the previous level), as current high palm oil prices cap demand.

In

Catalysts

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

• Slower-than-expected recovery in palm production, resulting in palm prices sustaining at high level.

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 (↔)

• Maintain average CPO price assumption of RM2,500/tonne for 2017-2018. We maintain our Neutral stance on the sector, as we believe our anticipation of palm oil production recovery will be offset by lower CPO prices (in the absence of significant demand growth catalyst).

Top picks

• For exposure, our top picks for the sector are Sime Darby (BUY; TP: RM9.06) , Hap Seng Plantations (BUY; TP: RM2.83) and CBIP (BUY; TP: RM2.48) .

Source: Hong Leong Investment Bank Research - 11 Jan 2017