We remain optimistic in terms of palm-oil demand-supply dynamics anticipating global palm-oil inventory to gradually decline, partly due to higher usage in food and biofuel industries. This has helped to boost CPO prices, in our view. Maintain our CPO ASP assumption for 2020-21E at RM2,500-2,600/MT. We are OVERWEIGHT on the plantation sector with KL Kepong as our preferred pick.

CPO Production Growth Rate Expected to Slow Down

We expect global palm-oil production to grow by c. 4% yoy in 2019E to 76.7m MT and by c. 1-2% yoy in 2020E (potentially higher CPO production in Indonesia but partially offset by lower production in Malaysia). The slowdown in global palm-oil production growth rate is underpinned by lagged effect of dry weather in 2019, lower fertilizer application to cut production costs (negative impact to FFB yield), and minimal new planting of oil palm globally for the past few years. On the other hand, we believe demand for palm-oil products will remain healthy in 2020E, supported by the food and energy industries. Indonesia’s B30 biodiesel mandate, starting Jan20, is one of the key reasons for tightness in global supply of palm-oil in 2020, in our view. The tight situation in Indonesia could shift some buyers to Malaysian palm-oil products.

Palm-oil Inventory to Trend Lower

Malaysia’s palm-oil inventory stood at 2.35m MT as at 10M19, down from a high of 3.2m MT in Dec18 attributable to consumption surpassing production. We believe that inventory levels in Malaysia will continue to trend lower in 2020E, falling below 2m MT level for the first time since Aug17 on expectations that consumption will still outpace production.

8 Major Oils Inventory Level Expected to Decline

Across the 8 major oils, based on Oil World data, the consumption for 6 of them (palm-oil, soybean oil, groundnut oil, rapeseed oil, palm kernel oil and coconut oil) in 2019/20E are expected to be higher than production, thus helping to ease inventory levels. Meanwhile, inventory levels for cotton oil and sunflower oil are expected to be higher due to stronger production as compared to consumption. For 2019/20E, stock-usage ratio for the 8 major oils is expected to decline to 12.2% from 13.9% previously.

Recovery in Prices to Benefit All Planters

Since mid-Oct19, CPO prices have been on a rising trend reaching its highest of RM2,700/MT in early-Dec19. We believe that expectation for higher demand growth rate for palm-oil products as compared to production has boosted CPO prices. Maintain our CPO ASP assumptions for 2020-21E at RM2,500-2,600/MT (2019E: RM2,050-2,100/MT).

OVERWEIGHT on Plantation Sector

We raise our TPs for select companies but make no earnings changes in this report. We recently upgraded the plantation sector to OVERWEIGHT from NEUTRAL in our 2020 Malaysia Strategy report, as we expect 2020 to be a better year for the plantation companies. We forecast plantation companies’ 2020E earnings to grow by c. 115%, albeit from a low base, mainly driven by higher CPO prices. In our coverage, we have BUY calls on Ta Ann, IJM Plantation, Hap Seng Plantation, KL Kepong and Jaya Tiasa; and HOLD on FGV, IOI Corp, SD Plantation, Genting Plantation and WTK. For sector exposure, we like KL Kepong as we expect its future earnings to improve on the back of higher CPO prices. Also, its CY20E PER of 30.2x is at c. 27% discount to average PER of its large cap peers.

Source: Affin Hwang Research - 10 Dec 2019