Malaysia’s palm oil stocks level of 2.09m MT in Sep-14 is within expectation as it is only 2% above consensus estimate of 2.05m MT. The slight variance is likely due to weaker than expected production decline of 7% MoM against market estimate of 8%. However, we are not overly concerned as the trend change of production decline in Sep (instead of the usual decline from Oct onwards) means that production is likely to have peaked in Aug and we expect this trend to continue in Oct. Looking ahead, we expect Oct-14 inventory to decline 3% to 2.04m MT assuming 4% production decline MoM and flattish exports. Overall, we believe that the news is neutral to CPO prices. However, the long-term CPO prices uptrend is intact due to sustainable demand seen from the food sector. Budget 2015 announcement was a non-event for plantations stock, as expected. We reiterate our NEUTRAL call on the sector with our CY14-CY15 average CPO price forecasts at RM2,500/MT both unchanged. Our only top pick is SIME (OP; TP: RM10.10) due to potential spin-off exercise within SIME business divisions. Maintain MARKET PERFORM on IOICORP (TP: RM5.30), KLK (TP: RM23.80), FGV (TP: RM4.00), PPB (TP: RM15.00), TSH (RM3.40), TAANN (TP: RM4.55), UMCCA (TP: RM7.15) and CBIP (RM4.85). Maintain UNDERPERFORM on GENP (TP: RM9.55) and IJMPLNT (TP: RM3.50).

Latest stock level of 2.09m MT is within expectations as it is only 2% above consensus estimate of 2.05m MT and 3% ahead of our estimate of 2.03m MT. The slight variance is likely due to weaker-than-expected production decline of 7% MoM against market estimate of 8%. However, we are not overly concerned as the trend change of production decline in Sep (instead of the usual decline from Oct onwards) means that production is likely to have peaked in August and we expect this trend to continue in October.

September production decline means production should have peaked early this year. We gather that September production actually declined 7% MoM to 1.90m MT and this is unusual against past seasonal pattern of higher production in September. Coupled with the fact that August production is the highest monthly production ever recorded, we believe that production trend this year has changed and peaked early in August. Overall, this is supportive to CPO prices as limited production should keep inventory level manageable.

Good demand seen for palm oil as overall exports jumped 13% MoM to 1.63m MT. The strong increase is caused by higher demand from India (+23% to 444k MT), EU (+6% to 186k MT) and China (+5% to 164k MT). We believe that strong exports to these three main consumers in the world (which makes up in total 48% of total Malaysia exports for 9M14) are caused by swift action by Malaysia government to exempt CPO tax in September. Overall, we are positive on the good exports as it reflects strong demand for palm oil.

Oct-14 inventory should decline 3% MoM to 2.04m mt. We believe Oct-14 total demand (exports + local disappearance) of 1.90m MT should outpace total supply (production + import) of 1.84m MT. On the supply side, we have assumed 4% production decline MoM as we believe that production trend has peaked earlier this year and hence is set to decline. For the demand side, we expect flattish export growth as better demand is seen as the removal of exports tax in Malaysia is neutralized by potential lower demand from India which may have finished stocking up early to prepare for Deepavali.

But 3QCY14 results season likely to be challenging. The upcoming 3QCY14 results season in end-Nov is likely to show a decline in earnings YoY due to lower CPO prices. Note that 3QCY14 CPO price of RM2,210/MT is lower by 5% against 3QCY13’s RM2,338/MT. On a QoQ basis, we think earnings are likely to be flattish as seasonal CPO production increase of around 17% QoQ would likely be neutralised by lower CPO prices by 14% QoQ to RM2,210/MT (against 2Q14’s RM2,572/MT). In our view, lower earnings outlook should keep the upside limited for planters.

Budget 2015 announcement was a non-event for plantations stocks, as expected. CPO export duty exemption will be extended until December 2014. For oil palm smallholders, the government will continue to provide incentives for new planting and replanting with an allocation of RM41 million. This is within expectations as CPO tax should automatically become 0% based on its current prices of below RM2,250/MT. We foresee no impacts as the incentive is not relevant for public-listed planters.

Maintain NEUTRAL with SIME as our only top pick. We like SIME as we think its valuation should rerate higher due to potential spin-off exercise within SIME’s business divisions. As it is, SIME has recently announced its plan to acquire New Britain Palm Oil Limited (NBPOL). Additionally, it has been reported by the media quoting Tan Sri Mohd Bakke Salleh (SIME’s CEO) specifying that the listing of its motor unit is set to be executed in 1HCY15 subject to market conditions. The stock is also cum-dividend of 30.0 sen (subject to approval in the AGM).

Source: Kenanga