Jul 2017 inventory saw a sharp 17% Month-on-Month (MoM) rise to 1.78m MT, beating both our and consensus’ 1.63m MT estimate. Production surged 21% to 1.83m MT, exceeding our 1.71m MT and consensus’ 1.70m MT forecast while exports were largely flat (+1.3% to 1.40m MT), below both our 1.43m MT and consensus’ 1.45m MT forecasts. For Aug 2017, we expect a continued production uptrend at +7% to 1.96m MT with good recovery in Peninsular Malaysia and Sarawak. Exports should, likewise, improve +15% to 1.61m MT on better availability, early festival buying and a more attractive discount to soybean oil (SBO). Nevertheless, supply at 2.00m MT would outstrip demand at 1.83m MT for higher Aug 2017 ending stocks of 1.96m MT. No change to our NEUTRAL sector view with unchanged FY17E CPO price of RM2,550/MT and 3Q17 CPO trading range of RM2,500-2,700/MT. In a bearish 2H17 price outlook environment, we see value in downstream players such as IOICORP (OP; TP: RM5.50), KLK (TP: RM26.56), and PPB (TP: RM18.90) on cheaper feedstocks. Other calls are maintained, namely OUTPERFORM on IJMPLNT (TP: RM3.60), TSH (TP: RM2.20), HSPLANT (TP: RM2.90) and UMCCA (TP: RM7.60); and MARKET PERFORM on SIME (TP: RM9.50), GENP (TP: RM12.40), FGV (TP: RM1.85), TAANN (TP: RM4.10) and CBIP (TP: RM2.20).

July 2017 stocks jumped 17% MoM to 1.78m MT, 9% above our and consensus’ 1.63m MT estimate. This was due to a sharp 21% surge in production to 1.83m MT – well over our estimated 1.70m MT and consensus’ 1.71m MT forecast – signalling a recovery to 2015 production levels. Exports were largely flat (+1.3% MoM) at 1.40m MT, weaker than our expected 1.43m MT and consensus’ 1.45m MT estimate. This was due to lacklustre buying outside of the festival period, though Chinese demand saw some recovery (+175% to 189k MT) on restocking activity.

Aug 2017 production to pick up 7% to 1.96m MT. Jul 2017 production at 1.83m MT exceeded both consensus’ 1.71m MT and our 1.70m MT forecasts with growth in all key producing regions. Peninsular Malaysia production led with a sharp 30% recovery to 987k MT, while Sarawak production increased 16% to 393k MT and Sabah improved 8% to 479k MT. We expect the seasonal production to be in full swing in August, as Peninsular Malaysia and Sarawak productions reach closer to 2015 numbers. Meanwhile, Sabah is likely to see MoM production growth though likely falling short of Aug 2015 (540k MT) due to lingering dryness effects. Overall, we expect Aug 2017 production to increase 7% to 1.96m MT.

Export recovery for Aug 2017 at +15% to 1.61m MT. Exports remained unremarkable in Jul 17 at 1.40m MT, falling 3% short of our 1.43m MT estimate and 4% below consensus’ 1.45m forecast. Indian demand declined 34% to 157k MT without the support of festival demand, though this was partly offset by restocking in China (+175% to 189k MT) and Europe (+26% to 213k MT. Looking forward, in conjunction with better supply availability, we expect Indian demand to strengthen towards late Aug as buyers begin stocking up for Diwali in mid-Oct, while other buyers may show interest on the widening palm oil discount to soybean oil (SBO), which stands at c.USD140/MT, compared to the year-to-date average discount of USD70/MT. Hence, we forecast export improvement of 15% to 1.61m MT in Aug 2017.

Expect Aug 2017 stocks to rise 10% to 1.96m MT. Overall, we forecast Aug 2017 supply to hit 2.00m MT, exceeding demand of 1.83m MT. We expect a production uptrend to continue at a 7% increase to 1.96m MT with strong recovery in Peninsular Malaysia and growth in Sarawak but milder gains in Sabah. Meanwhile, late August demand should see improvement of 15% to 1.61m MT on better availability, early festive buying and a more attractive discount to SBO. In sum, we expect stocks to close 10% higher at 1.96m MT in Aug 2017.

2Q17 earnings to continue improvement. Year-on-Year (YoY), we expect 2Q17 to deliver stronger earnings on the back of both higher CPO prices (+6% to RM2,747/MT) and stronger Malaysian production (+12% to 4.72m MT), while QoQ earnings should be flat-to-higher on seasonally better production (+18%) albeit softer CPO prices (-12%). Overall, we expect 2Q17 results to come in largely within expectations as we have priced in production recovery for the year. Planters with good Peninsular Malaysia exposure such as SIME, IOICORP, KLK, FGV and UMCCA could see higher-than-average production growth trends as the region has seen decent rainfall patterns over last year while 2016 production was weakened to a large extent by 2015 droughts.

Maintain NEUTRAL with price downtrend offset by earnings recovery. No change to our FY17E CPO forecast of RM2,550/MT and 3Q17 price range of RM2,500-2,700/MT on a wider basis of CPO-SBO discount of USD100/MT (the 3-month average) from USD80/MT, but unchanged CPO-gasoil premium of USD100/MT. Despite a weakening price outlook, we maintain our neutral sector view as we expect solid earnings from planters in the upcoming results season. Meanwhile, in a declining price environment, we think big-caps with downstream facilities such as IOICORP (OP; TP: RM5.50), KLK (MP; TP: RM26.56) and PPB (OP; TP: RM18.90) through its associate Wilmar, should benefit from lower input costs.

Source: Kenanga Research - 11 Aug 2017