October 2019 CPO inventory declined 4.1% MoM to 2.35m metric tons (MT), below both consensus and our estimates of 2.52m MT (+2.8% MoM) and 2.78m MT (+13.4% MoM), respectively. This is attributed to: (i) lower-than-expected production of 1.80m MT (-2.5% MoM) vs. consensus/our estimate of 1.88m/1.91m MT (+2.0%/+3.7% MoM) respectively, and (i) higher-than-expected exports of 1.64m MT (+16.4% MoM) vs. consensus/our forecast of 1.59m/1.34m MT (+13.0%/-5.1% MoM), respectively. Deviation in production largely stemmed from the impact of the dry weather in June-October. On the other hand, exports surprised positively due to stronger-than-expected demand from: (i) China (+24% MoM) as demand for palm oil as a substitute to soybean oil remained strong, (ii) EU (+44% MoM), and (iii) other countries (+42% MoM) such as Turkey, Nigeria, and Netherlands as they stock up on inventory.

November 2019 production to decline further by 2.2% MoM to 1.76m MT. The impact from the dry weather in June-early October is expected to continue on for the next 2-3 months. Alongside cost managing maneuvers such as lower new planting activities and lower fertiliser application in the past 1-2 years, we believe production should continue to decline. We forecast November output to fall by 2.2% MoM to 1.76m MT.

Exports to decline slightly to 1.63m MT (-0.8% MoM) in November 2019. Moving forward, we expect to see a 0.8% MoM decline in export volume to 1.63m MT, as exports to India continue to remain weak due to the impact of India’s import tariff increase. Based on cargo surveryors’ (AmSpec & Intertek) data for 1st – 10th November, exports have seen an increase of 56k MT (+16% MoM). However, we believe this should moderate throughout November as demand from other countries also normalise post-festive season.

November 2019 inventory to further decline to 2.23m MT (-5.1%% MoM). We expect demand of 1.95m MT to outstrip supply of 1.83m MT, leading to lower ending stocks of 2.23m MT (-5.1% MoM) in November. Meanwhile, we expect CPO prices to remain range-bound (RM2,300-2,500/MT) for the remaining 4QCY19, supported by (i) healthy soybean oil-crude palm oil (SBO CPO) premium of USD106/MT (close to 3-year average of USD111/MT), (ii) strong demand amidst slowing production, and (iii) weaker ringgit (CY19E USD/MYR of 4.20 vs. current USD/MYR of 4.14).

Maintain NEUTRAL on the plantation sector with an unchanged CY19-20 CPO price forecast of RM2,100-RM2,400/MT. All in, after weighing the potential positives and negatives, we believe 2020 should spell out a better year for planters. Our preferred picks for the sector are KLK (OP; TP: RM24.60) and HSPLANT (OP; TP: RM1.70).

(i) KLK (OP; TP: RM24.60). At current price, KLK is trading at Fwd. PBV of only 2.2x (implying -2.0SD from mean) which we believe is unjustified given its: (i) above-average FFB growth (for big caps) of 4.3%, (ii) above-sector average FY20 ROE of c.8% (vs. sector’s average of c.5%), and (ii) decent dividend yield of 2.2%.

(ii) HSPLANT (OP; TP: RM1.70). We like HSPLANT as a pure upstream planter allowing it to capitalize on the recovery in CPO price to a greater extent. Its zero exposure to Indonesia also allows it to mitigate the impact of the dry weather. At current price, HSPLANT is trading at Fwd. PBV of only 0.74x (implying -1.5SD from mean) which we think is unwarranted given its: (i) above-average FFB growth prospect of 4.5%, (ii) net cash position of c.RM52m, and (iii) low EV/planted Ha of RM33k, implying 20% discount to small cap planters’ average EV/planted Ha of RM41k.

Source: Kenanga Research - 12 Nov 2019