We maintain our average CPO price projections of RM2,350-2,400/mt for 2020-21, and Neutral rating on the sector. The recent surge in CPO price (by >20% since early-May) may not sustain into the next few months, due to (i) heightened concerns on Covid-19 resurgence, posing threat on demand for edible oils (including palm oil), (ii) demand recovery from China may not be as strong as pre Covid-19’s level, as gradual recovery in China’s hog production (evidenced by rising inventory level) will likely result in more soybean being crushed as livestock feeds, hence resulting in lower demand for palm oil (vs. pre Covid-19 level), (iii) narrower price gap between CPO and soy oil caps upside to CPO price, and (iv) feasibility of discretionary biodiesel blending remains inexistent.

Stay Neutral, as uncertainties remain. CPO price has recovered by >20% (since early-May) to RM2,426/mt (bringing YTD average CPO price to RM2,446/mt), fuelled by optimism arising from easing lockdown measures in major economies and Indonesia’s reinforced commitment to its biodiesel mandate. Despite the recent optimism, we maintain our average CPO price projections of RM2,350-2,400/mt in 2020-21, as current CPO price may not sustain into the next few months, due to several reasons including (i) heightened concerns on Covid-19 resurgence, (ii) demand recovery from China may not be as strong as pre Covid-19’s level, (iii) narrower price gap between CPO and soy oil, and (iv) feasibility of discretionary biodiesel blending remains inexistent.

Concerns on Covid-19 resurgence heightened. Easing lockdown measures among major economies (in particular, US, EU, and China, which are also major consumers of edible oils) have reignited optimism on edible oil consumption, hence driving prices of edible oils (including palm oil) higher. However, recent surge in Covid-19 cases globally has heightened concerns on resurgence of the pandemic, hence posing threat on demand for edible oils (including palm oil), particularly from major economies.

Demand recovery from China may not be as strong as pre Covid-19 level. While China’s demand for edible oil (including palm oil) will continue to recover (on the back of low inventory level), we believe the demand recovery will likely be gradual, as the gradual recovery in China’s hog production (evidenced by rising inventory level, see Figure #3) will likely result in more soybean being crushed as livestock feeds, hence resulting in lower demand for palm oil (vs. pre Covid-19 level).

Palm’s price competitiveness weakens against soybean oil. Palm’s discount against soy oil has narrowed to <US$30/mt at the time of writing. Narrower discount against soyoil does not augur well for CPO price (if it persists), as it indicates palm’s price competitiveness has weakened against soy oil, hence capping upside to near term CPO price.

Feasibility of discretionary biodiesel blending remains inexistent. We note that economic feasibility of biodiesel blending remains inexistent, due to further deterioration in palm oil-gas oil (POGO) spread (arising from recent recovery in CPO prices and stagnant crude oil price), and hence capping upside to CPO price.

Maintain Neutral. We maintain our Neutral stance on the sector, given our less sanguine view on its outlook

Source: Hong Leong Investment Bank Research - 9 Jul 2020