Fitch Ratings has revised Malaysia's Outlook to “Negative” from “Stable”. However, Malaysia’s Long-Term Foreign Ratings has been reaffirmed at “A-“. We believe the overall impact is neutral to plantation sector. On one hand, palm oil prices should trend higher if Ringgit weakens further on the back of the revised ratings. As palm oil is priced in Ringgit, we reckon that a weaker Ringgit against major palm oil consumer countries currencies will make palm oil more competitive against other vegetable oils cost-wise. But on the flipside, we believe that equity investors’ sentiment is likely to be negatively affected by the ratings revision and this may eclipse the shine of better CPO price prospects in the short term. We also expect the upcoming July-2013 inventory level to be flattish MoM at 1.65m mt which should be neutral to CPO prices. No change in our CY13-CY14 average CPO price forecasts of RM2,500/mt-RM2,700/mt at this juncture. Maintain NEUTRAL on plantation sector with OUTPERFORM calls on IJMP (TP: RM3.50), TSH (TP: RM2.57) and PPB (TP: RM15.20). We also keep our NEUTRAL ratings on SIME (TP: RM9.80), IOICORP (TP: RM5.40), KLK (TP: RM21.86), FGV (TP: RM4.60), GENP (TP: RM9.85), and UMCCA (TP: RM7.55). However, we are still keeping UNDERPERFORM on TA ANN (TP: RM3.55) due to high costs issue.

Slight revision from Fitch on Malaysia outlook. Fitch Ratings has revised Malaysia's Outlook to “Negative” from “Stable”. However, Malaysia’s Long-Term Foreign Ratings has been reaffirmed at “A-“. Justification for the revised outlook includes: (i) weakness in public finances, (ii) rising contingent liabilities; and (iii) low fiscal revenue base. Nevertheless, Fitch acknowledges strengths in the composition of Malaysia's debt and its funding base as 97% of Federal Government’s debt was denominated in local currency as of end-2012 and has a smooth maturity profile.

Weaker Ringgit to shore-up CPO prices…  The Ringgit weakened by 0.6% yesterday to RM3.2440 post Fitch Ratings downgrade. If the rating revision continues to weaken the Ringgit, it will be positive to CPO. We reckon CPO prices which are priced in Ringgit will be more attractive to major palm oil consumer countries currencies as  oil palm based products become more competitive against other vegetable oils (which are mainly priced in USD and Euro). This does offers better fundamental impact to the planters. 

…but negative sentiment may cap the upsides of CPO prices.  Typically, higher CPO prices translate to better share price performance and earnings for planters. However, we believe that investors may view the ratings revision news negatively across the equity market which may eclipse the shine of better CPO price prospects (including index-linked plantation stocks). However, we believe any potential sell-downs will be limited as plantation stocks are laggards against the FBMKLCI post-GE. Amongst plantation heavyweights, we gather that both SIME and KLK have gained only 1.2% since 5-May-2013 while FGV actually declined 1.1%. All these paled significantly against the FBMKLCI gain of 4.6%. Although IOICORP gained 9.9% and outperformed FBMKLCI, we reckon it was driven by its property-arm IPO.

Expect flattish inventory MoM at 1.65m mt in July-2013. We expect palm oil total supply (production + imports) to match total demand (exports + local disappearance) level of 1.66m mt. On the demand side, we think exports should grow 3% MoM to 1.45m mt mainly due to better demand from China on warmer weather in July. Note that palm oil usage is less in cold weather as it tends to solidify. On the supply side, we expect production to grow by 14% MoM to 1.61m mt in line with seasonal trend. This is neutral to CPO prices as demand and supply remain in equilibrium.

Maintain NEUTRAL on Plantations as we expect share  prices to range bound. While fundamentals may pick-up in light of better CPO prices, we believe overall share price sentiment will be lukewarm in light of Malaysia’s outlook rating revisions. We continue to like IJMPLANT (OP; TP: RM3.50) as its strong FFB growth of 39% YoY in 2QCY13 is the highest among stocks under our coverage. This should cushion the impact of 28% decline YoY in CPO prices. We also have OUTPERFORMs on TSH (TP: RM2.57) due to estimated good FFB growth of 30% YoY in 2QCY13 and PPB (TP: RM15.20) on expected better earnings from Wilmar YoY.

Source: Kenanga