We maintain our Overweight stance on the sector, supported by (i) an anticipated recovery in CPO price; and (ii) commendable valuations (after recent sharp retracement in share prices). For exposure, we prefer integrated players such as KLK (BUY; TP: RM26.54) and IOI (BUY; TP: RM4.36) over purer upstream players, as earnings of integrated players tend to be better insulated amidst volatile palm product price trend.

Severe CPO price overdone. While Indonesia’s move to flush out palm oil inventories will likely suppress near term CPO price, the recent severe CPO price decline is overdone, in our view, as (i) supply prospects of major vegetable oil remains uncertain; and (ii) there are several positive demand catalysts.

From supply viewpoint. There are still uncertainties to major vegetable output recovery, which include (i) migrant labour arrival to Malaysian shores and higher fertiliser prices, which may derail output recovery for palm oil, (ii) possible return of La

Niña (for third year in a row); and (iii) lower-than-expected soybean planted acreage in US; and (iv) stockpile in Indonesia will likely start normalising by end-Jul (depending on the pace of shipments).

From demand viewpoint. While the high palm oil prices previously have resulted in demand destruction (evidenced by reduced export demand from key importing countries), there are several factors to reinforce demand for palm oil, hence lending support to CPO price (especially when palm oil stockpile in Indonesia normalises). These include (i) palm’s widened discount to soybean oil (at US$400/mt at the time of writing); (ii) low vegetable oil inventory levels among key importing countries; and (iii) more favourable POGO spread, which will underpin demand for palm oil, if the spread sustains over the slightly longer term.

Maintain 2022-23 CPO price assumptions, but lower 2024. We maintain our 2022- 23 CPO price assumptions at RM5,500/mt and RM4,500/mt. However, we lower our 2024 CPO price assumption to RM3,800/mt (from RM4,500/mt), as we anticipate supply prospects will continue to improve into 2024 (which will in turn drag CPO price further). Following the downward revision in our 2024 CPO price assumption, we lower our FY24 earnings forecasts for plantation companies under our coverage.

TPs lowered. Post earnings revision and roll-forward of valuation base year from CY23 to CY24, we lower our TPs on plantation stocks under our coverage by 5.9-33.1%. Consequently, we downgrade our ratings on FGV and Sime Darby Plantation to HOLD (from Buy earlier). Ratings on other stocks, on the other hand, remain unchanged.

More palatable valuations. Valuations of plantation stocks have turned more commendable (following recent steep sell-down). Using historical P/B as a gauge (as book value is always more stable relative to earnings, particularly when CPO price remains volatile), we note that all plantation stocks under our coverage (except for Hap Seng Plantations) are already trading at discount to their historical 5-year average P/B.

Maintain Overweight. We maintain our Overweight stance on the sector, supported by (i) an anticipated recovery in CPO price; and (ii) commendable valuations (after recent sharp retracement in share prices). For exposure, we prefer integrated players such as KLK (BUY; TP: RM26.54) and IOI (BUY; TP: RM4.36) over purer upstream players, as earnings of integrated players tend to be better insulated amidst volatile palm product price trend.

Source: Hong Leong Investment Bank Research - 12 Jul 2022