Malaysia’s Nov19 CPO production declined by 14.4% mom to 1.54m MT, while exports were down by 14.6% mom to 1.4m MT. Given the higher consumption (exports combined with local consumption) of palm-oil products than production, Malaysia’s inventory level continued to decline in Nov19 to 2.26m MT, and this has helped to boost CPO prices, in our view. We maintain our OVERWEIGHT rating on the plantation sector and our CPO ASP assumptions of RM2,050/MT for 2019 and RM2,500/MT for 2020. KL Kepong and Ta Ann are our top sector BUYs.

Malaysia CPO Production Declined by Another 14.4% Mom to 1.54m MT

Malaysia’s CPO production in Nov19 was lower at 1.54m MT, down 14.4% mom and 16.6% yoy. The drop in CPO production was seen in Peninsular Malaysia, Sabah and Sarawak, declining by 14.6%, 10.7% and 17.8% mom to 757.6k MT, 424.8k MT and 355.6k MT, respectively. We believe production is likely to slow down further in the next few months given the monsoon season. Overall, Malaysia’s CPO production for 11M19 was up by 4.6% yoy to 18.5m MT, underpinned by improving FFB yields and CPO oil extraction rates throughout Malaysia. We expect Malaysia’s 2019 CPO production to rebound to c.20m MT from 19.5m MT in 2018 (Oil World forecast for Malaysia’s CPO production in 2019: 20.3m MT).

Weaker Exports of Palm Oil in Nov19, Down 14.6% Mom to 1.4m MT

In tandem with the weaker production, palm-oil exports in Nov19 were also lower mom, declining by 14.6% to 1.4m MT. This was due to weaker exports of palm-oil products to India (-35.1%) and the EU (-11.5%) that were partially offset by higher exports to China (+23.5%) and Pakistan (+11.8%). For 11M19, total exports rose by 13% yoy to 17.1m MT.

Stock Level Down to 2.26m MT as Consumption Surpassed Production

Malaysia’s palm-oil inventory declined by another 95.9k MT mom (or -4.1%) to 2.26m MT in Nov19, given the higher consumption (exports combined with local consumption) of palm-oil products as compared to production. We expect inventory levels to trend lower in 2020 as we believe demand will surpass production. Also, Malaysia’s inventory level in 2020E could decline below the 2m MT level for the first time since Aug17

CPO Prices Averaged RM2,493.50/MT in Nov19

The average MPOB locally-delivered CPO price in Nov19 was at RM2,493.50/MT, +18.5% mom (Nov18 CPO ASP: RM1,830.50/MT), while the 11M19 CPO price averaged RM2,041/MT vs. RM2,267/MT for 11M18. In our view, the lower prices in 11M19 as compared to the same period a year ago was partly due to the ample supply of other edible oils in the market, weak market sentiment as well as the trade tension between the US and China.

December CPO Prices Above RM2,600/MT

We remain optimistic over the palm oil demand-supply dynamics. We expect the global palm-oil inventory to decline yoy from 2020E onwards with higher exports and higher consumption of palm-oil products. Stronger exports and consumption will likely be supported by the energy market and food industries, in our view. Malaysia targets to raise its biodiesel mandate to B20 by end-2020 (from B10 currently), while Indonesia’s target is for B30 (from B20 currently) by Jan20. We believe the anticipation of higher demand growth rate for palm-oil products as compared to the production growth rate has positively catalysed CPO prices. CPO prices have been on a rising trend since mid-Oct 2019 and have stayed above RM2,600/MT in early-Dec. We maintain our CPO ASP assumptions at RM2,050/MTRM2,500/MT for 2019-20E.

Small Chance for El Nino to Make An Appearance in 2020

Based on the US NOAA climate advisory report, the tropical Pacific has remained ENSO-neutral (neither El Nino or La Nina is present), and this condition could potentially continue through the Northern Hemisphere spring in 2020E (c.60-65% probability). However, there is a c.25% probability that El Nino could make an appearance in spring 2020E (recent anomalous warming across the east-central equatorial Pacific). The El Niño-Southern Oscillation (ENSO) cycle can greatly influence global weather, as these cycles can alter the normal weather patterns and surface temperatures, which can cause major disruption to the world’s agricultural production and supply.

OVERWEIGHT on Plantation Sector

Across our coverage, we have BUY ratings on Ta Ann, IJM Plantation, Hap Seng Plantation, KL Kepong and Jaya Tiasa, and HOLD ratings on FGV, IOI Corp, SD Plantation, Genting Plantation, WTK. We are OVERWEIGHT on the plantation sector as we expect 2020 to be a better year for the plantation companies. For sector exposure, we like: (1) KL Kepong (large cap) as we expect its future earnings to improve on the back of higher CPO prices coupled with its cheaper valuation as compared to the other large-caps (SD Plant, IOI Corp and Genting Plant); and (2) Ta Ann (small-mid cap) on the back of its improving earnings (higher log sales volume and stronger CPO production and ASP).

Key Risks for the Plantation Sector

Key downside risks to our OVERWEIGHT rating on the plantation sector and BUY stock calls include: (i) weaker-than-expected demand and higher-than-expected production lowering prices of vegetable oils; (ii) a decline in CPO production that is not offset by a higher CPO ASP; (iii) delays in the implementation of biodiesel mandates; and (iv) unfavourable policies and taxes. For our HOLD stock calls, the key upside risks include a strong rebound in the global economy as well as the demand for and prices of vegetable oils.

Source: Affin Hwang Research - 11 Dec 2019