We believe El Nino’s impact on edible oil supply will be one of the largest ever, given its current strength, and as such are raising our CPO price estimates to MYR2,575/tonne for FY16 and MYR2,740 for FY17. We raise our TP to MYR25.20 (from MYR19.55), implying 11% upside. We upgrade our recommendation to Buy (from Neutral), as valuations are more attractive at current levels, at P/E of 17x CY16.

Unprecedented impact. We believe El Nino’s impact on edible oil supply will be its biggest ever given its strength and high global reliance on palm oil. In the last mild El Nino in 2009 – 2010, palm oil price went ballistic as production stagnated. Given that the current episode is a strong one and could match 1997 – 1998 El Nino, the impact on production will be more severe with Indonesia potentially experiencing a decline in production next year. Unlike the last two episodes, there will be little or no mitigating factor from an increase in oil palm hectarage since Indonesia’s new planting has been slowing in the past few years.

Perfect storm in 2H2016. While soybean supply is still healthy, rapeseed crop has already been hit. We believe a perfect storm is due in 2H2016 as La Nina weather follows El Nino closely and could bring drought to soybean areas. This could happen while palm oil production is suffering its sharpest yield decline due to the 12-month drought impact.

Raising estimates. We raise our CPO price assumptions for KLK to MYR2,575/tonne for FY16 (from MYR2,425), MYR2,740 for FY17 (from MYR2,575). No change to our FY15 assumption of MYR2,270. With that, our earnings have been adjusted upwards by 10-16% for FY16-17.

Upgrade to Buy. We have also upped our P/E target for KLK’s plantations division to 19x CY16 earnings (from 17x) to account for improving sentiment on plantation stocks on the back of the strengthening El Nino phenomenon. We note that during a rising CPO price environment, share prices tend to run ahead, pricing in peak valuations. KLK has traded in a historical P/E band of 15-30x over the last five years, and as such, we believe attributing 19x for its plantation division is fair. We maintain our target P/E of 12x for its manufacturing and property divisions. Our SOP-based TP is, therefore, raised to MYR25.20 (from MYR19.55). We highlight that every MYR100/tonne change in the price of CPO could affect KLK’s earnings by 4-6%. We upgrade our recommendation on the stock to Buy as we believe valuations for CY16 of 17x are currently at attractive levels