We continue to see positive catalysts for CPO prices in the form of falling inventories caused by weakening productivity. Malaysia’s latest statistics have confirmed this, with CPO stocks falling 12.4% to 2.3m tonnes and expect Malaysian inventories to go below the psychological 2.0m-tonne mark by 2Q16, as the El Nino-affected palm oil trees continue to yield fewer fruits. No change to our OVERWEIGHT stance on the sector. We believe the SGX-listed names should start performing soon, as the Malaysia and Jakarta-listed planters have performed relatively better of late.

Malaysia’s CPO production fell 19.3% MoM in January; we expect outputto continue falling for the next few months until the start of the run -up to the next seasonal peak in 2Q16.

Malaysia’s palm oil exports also fell by 13.8% MoM to 1.28m tonnes, although YoY, it was up 7.3%. Malaysia’s exports to China fell 51% YoY in January, but improved 10.7% MoM from Dec 2015. However, exports to India rose 64% YoY, albeit down 15.9% MoM.

Inventory fell by 12.4% MoM to 2.31m tonnes (as a result of the larger drop in production vis-à-vis exports), helped by a 56% MoM drop in CPO imports. We expect CPO stocks in Malaysia to continue to fall in the next few months, as production starts to be hit by the delayed El Nino impact. It is possible for CPO stocks to go below 2m tonnes in 2Q16, in our view.

Recent developments: i) While El Nino remains strong, it continues its gradual decline from its peak, with climate models expecting a return to neutral conditions by 2Q16. However, the probability of La Nina occurring in 3Q16 has risen and is now at 58%, from 25% in Dec 2015 (Figure 2), ii)contrary to belief that China’s demand is slowing, China posted a 44% MoM jump in palm oil imports in December, bringing 2015 palm oil import growth to 10.9% YoY (vs soybean import growth of 14.5%). Although India recorded a 12% MoM decline in December palm oil imports, 2015 number grew by an impressive 21% YoY, iii) after a month, Oil World has again reduced its global palm oil output forecast to a growth of 0.4m tonnes (from 0.6m tonnes in Jan 2016 and 2.3m tonnes in Nov 2015), vs the 5-year average annual growth of 3.2m, iv) crude oil price volatility may no longer have that much of an impact on CPO prices, as there has been a disconnect since end-2014 (correlation down to 0.4x vs the historical correlation of 0.7-0.8x) .

We retain our OVERWEIGHT call on the sector and expect production yields to remain under pressure throughout 2016, with a recovery slated from 2Q17 onwards. We expect to see further share price appreciation forthe SGX-listed names, as the Malaysia and Jakarta-listed planters have performed relatively better of late (Figure 4).

Our Top Pick for the region is First Resources, while Genting Plantationsand London Sumatra Indonesia are our Malaysia and Indonesian Top Picks respectively.