Malaysia ended Feb 2023 with 2.12m MT closing inventory, 6% lower than our expectation of 2.26m MT and 4% below consensus’ 2.206m MT. Monthly production is often lower in February due to fewer working days, so Feb 2023 production of 1.251m MT (-9% MoM, +10% YoY) was not surprising, coming in within 1% of our and consensus’ estimates. After a weak Jan, Feb exports recovered to 1.114m MT, 3% above our, but 2% below consensus, estimate, resulting in flat YoY cumulative Jan-Feb 2023 exports of 2.25m MT. Average CPO price held firm MoM at RM3,908/MT (-0.3% MoM, -43% YoY). Average CPO price forecasts of RM3,800-3,500MT for 2023-24 are kept unchanged. Maintain NEUTRAL. We like the sector’s defensive earnings, asset rich NTA and low P/BV ratings but margins are facing cost pressures, thus capping upside somewhat for now. Stay selective with the following stock picks. KLK is our large integrated pick, TSH for its long-term expansion growth, and HSPLANT for income yield.

Outlook: Edible oil supply is improving in 2023 but so is demand driven by: (a) post-Covid normalisation uptick in demand after stagnating since 2020 and delayed by high prices in 2022, (b) recent post pandemic reopening of China (the world’s biggest vegetable oil market), and (c) firm demand for biodiesel with countries such as Indonesia raising its B30 blend to B35 whilst keeping its B40 target intact. Firm average CPO prices of RM3,800-3,500 per MT are thus expected for CY23-24 but rising production cost is an issue this year. Despite average fertiliser price having eased by about 20% since peaking in Apr/May 2022, it is still 60% above the average in 2021. Another pressure-point on unit cost of FFB production which is weighed down by old palms and replanting. Margin is expected to stay under some pressure for CY23.

Recommendation: Maintain NEUTRAL. The sector is highly defensive in view of: (i) the wide and versatile usage of palm oil as food, manufacturing ingredient and fuel, (ii) asset-rich books, and (iii) undemanding valuations. However earnings are capped by limited margins upside due to: (i) rising costs, and (ii) easier YoY palm oil prices. Selectively, we prefer companies with the ability to expand upstream such as KLK (OP, TP: RM27.00) or TSH (OP, TP: RM1.35) which is set to expand its planted area by c.30%-50% after having de-geared while for investors seeking dividend yields, HSPLNT (OP, TP: RM2.30) looks attractive.

Source: Kenanga Research - 13 Mar 2023