KEY HIGHLIGHTS

• November inventory came in within expectation

• Production decline in November confirms that production have peaked in September

• Slowdown in demand from India but China demand improved

• Expect Dec-2016 inventory to increase by only 2% to 1.70m MT

• Maintain POSITIVE view with BUY calls on KLK, SIME, IOICORP and TAANN

November inventory came in within expectation. Malaysia palm oil inventory level of 1.66m MT as of end November 2016 is within expectation against our estimate of 1.63m MT and consensus’ 1.69m-1.70m MT. Against last month, inventory level has inched up by 5%mom as the impact of export decline of 4% is neutralized by the decline in production by 6%. Against same period last year, inventory remains significantly lower yoy as it has tumbled 43%yoy.

Production decline in November confirms that production have peaked in September. Sabah production declined the most by 10% mom to 424,695 MT. This is followed by Sarawak in which production slipped 8% mom to 320,989 MT. Lastly, Peninsular Malaysia production fell 3% mom to 829,251 MT. On a yearly basis, production declined 5% and this suggests that the impact of El Nino is still there.

Slowdown in demand from India but China demand improved. Export to India dropped 35% mom to 131,368 MT in the absence of stocking activity ahead of major festival. However, China has increased their purchase of palm oil with export to the country grew by 16% mom to 217,744 MT. We believe that China has started their stocking activity ahead of Chinese New Year festival in Jan-2017.

Expect Dec-2016 inventory to increase by only 2% to 1.70m MT. Key assumptions are: i) export decline of 10% mom and ii) production decline of 11% mom. We are expecting export decline as colder temperature in Northern Hemisphere should lead to lower usage of palm oil in European Union. However, the inventory is expected to remain tight as it is only expected to increase by 2% mom to 1.70m MT as production is also expected to decline 11% mom. Cargo surveyors data shows export decline of 11%mom in the first ten days of December. For production growth we are using seasonal factor to estimate the 11% decline.

BUY KLK (TP: RM29.25), SIME (TP: RM9.05), IOICORP (TP: RM5.30) and TAANN (TP: RM4.70). We maintain our positive view on the sector and expect CPO price to stay at the higher range of RM2800/MT to RM3300/MT in Dec-2017 and 1H2017. Our top pick is KLK (BUY; TP RM29.25) due to its high exposure to palm oil business and good earnings growth of +33%yoy to RM1.05b in FY16. We also like SIME as i) its plantation division is set to benefit from high CPO price, ii) we expect positive newsflow from the potential demerger exercise to unlock its value and iii) decent dividend yield of 3.8%. We like IOICORP (BUY; TP RM5.30) due to its pure exposure to palm oil business both in the upstream and downstream divisions. The Company’s profit is also expected to recover in FY17 after the uplift of RSPO suspension. For mid and small cap, we like TAANN due to its FFB production growth which is the strongest among peers (+8%yoy in 9MFY16) and better outlook for timber division due to recent strengthening of USD and Sarawak State Government’s effort to promote timber products in Japan.

Source: MIDF Research - 15 Dec 2016