Malaysia’s palm oil inventory level grew 3.5% to 1.85m mt in Oct-13 which came in within market expectation of 1.84m mt. Palm oil production increased 3% MoM to 1.97m mt but this was well absorbed by export growth of 3% to 1.66m mt and strong local usage (+30% to 274k mt). This news is neutral to CPO prices as stocks level came in within consensus estimate. However, we believe CPO prices should gradually appreciate due to: (i) potential USFDA ban on trans fats, (ii) weak Ringgit, and (iii) swift Indonesia biodiesel implementation.

We expect Malaysia to benefit from Indonesia successful implementation of its biodiesel policy. Note that in Oct-2013, Malaysia import of palm oil remained very low at 22,503 mt or 62% below the 2012’s monthly average level of 58,900 mt. We reckon that this is a sign that Indonesia has implemented its biodiesel plan successfully as we have noticed three successive months of very low palm oil import. As Indonesia is the world’s biggest palm oil producer, more usage locally should lead to less export from the country and hence lessen the export competition with Malaysia. In the long run, this is positive to CPO prices.

Maintain NEUTRAL on the sector with our current CY13-CY14 average CPO price forecasts of RM2,400/mt-RM2,700/mt unchanged. Our top pick is CBIP (OP; TP: RM3.18). We also have OUTPERFORM calls on PPB (TP: RM15.20) and TSH (OP; TP: RM2.56). Maintain MARKET PERFORM on SIME (TP: RM9.80), IOICORP (TP: RM5.40), KLK (TP: RM21.50), FGVH (TP: RM4.55), GENP (TP: RM9.35), IJMP (TP: RM3.00) and UMCCA (TP: RM7.30). Maintain UNDERPERFORM on TAANN (TP: RM3.55) due to its high cost issue.

Inventory level came in within market expectation. Malaysia stocks level grew 3.5% MoM to 1.85m mt and this is within market estimate of 1.84m mt and exactly the same as our 1.85m mt estimate. As expected, the increase in inventory by 4% in Oct does not impact CPO prices negatively as average CPO prices stay flat MoM at RM2,356/mt in Oct (against RM2,355/mt in Sep) due to support from strong crude oil prices and weak Ringgit.

Exports registered healthy growth of 3% MoM to 1.66m mt due to better demand seen in China (+31% MoM to 349k mt), European Union (+13% MoM to 226k mt) and Pakistan (+48% MoM to 197k mt). We believe China has increased its usage of palm oil due to late delivery of soybean into China while European Union may have used more palm oil in the energy segment to generate electricity. Strong demand growth seen so far bodes well for CPO prices outlook.

Swift Indonesia biodiesel plan implementation is now confirmed. Note that in Oct-2013 import of palm oil from Indonesia remained very low at 22,503 mt or 62% below 2012’s monthly average level of 58,900 mt. We reckon that this is a sign that Indonesia has implemented its biodiesel plan successfully as we have noticed three successive months of very low palm oil import. Higher local palm oil usage in Indonesia should curb its export and hence, lessen the export competition with Malaysia. In the long run, this is positive to CPO prices which benefit both countries.

Looking ahead, we expect Oct-13 inventory to increase by 3.5% MoM to 1.91m mt. On the supply side, we have assumed 6.5% decline MoM to 1.84m mt in line with seasonal trend. On the demand side, exports should slip 5% MoM to 1.58m mt due to a lack of major festivals in the near term and a colder northern hemisphere. Note that palm oil tends to solidify in cold weather and hence is used less in cold temperature. Having said that, we do not think that the 3.5% increase in inventory is a major concern as CPO prices should be supported by: (i) potential USFDA ban on trans fats, (ii) weak Ringgit and (iii) swift Indonesia biodiesel implementation.

OUTPERFORMs on CBIP (Top Pick), PPB and TSH. We like CBIP (OP; TP: RM3.18) due to its superior dividend yield of 4.0% (higher than all planters under our coverage) and its steady margin improvement historically in its palm oil mill construction division despite the volatile CPO prices. In addition, CBIP balance sheet is very solid with net cash of RM128m as at end-Jun. We also like PPB (OP; TP: RM15.20) as it stands to benefit from the recent Indonesia’s plan to raise the biodiesel proportion in fuel to 10.0% (from 7.5%) and its earnings contribution from Wilmar should also increase. Lastly, we like TSH (OP; TP: RM2.56) for its strong earnings growth despite low CPO prices as it is supported by its structural advantage of high FFB volume growth and its downstream JV with Wilmar in Sabah.

Source: Kenanga