Malaysia’s Dec palm oil output of 1.619m MT exceeded Kenanga’s expectation of 1.513m MT but is below market’s 1.720m MT. Inventory thus came in 8% below consensus but 12% above our estimate on exports of 1.468m MT, just slightly below our and consensus estimates. Altogether, Dec 2022 production was a tad stronger than historical trend, but exports and end-inventory were in line with historical averages. Full year, 2022 output inched up 2% YoY to 18.5m MT with average CPO price of RM5,126/MT (+6% YoY) even as Dec CPO price eased to RM3,961/MT (-3% MoM, -22% YoY). Due to price differential outside Malaysia, our CY22 and CY23 average CPO prices are kept at RM4,500/MT and RM3,800/MT, respectively, along with our NEUTRAL sector recommendation. The sector enjoys defensive earnings and NTA but cost inflation amidst softer CPO prices meant margin upside is somewhat capped. On stock selections, KLK is our large integrated pick; TSH for visible long-term expansion and, for income, HSPLANT.

Outlook: Edible oil prices have eased after mid-2022 on higher supply but demand, which has been subdued by Covid since 2020, is likely to recover in 2023 as well. Inventory levels are thus expected to stay range-bound for much of 2023. Therefore, palm oil prices should stay relatively firm, and we maintain 2023- 24 CPO price forecast at RM3,800-3,500 per MT.

Rising production cost is a concern as labour, fertilizer and energy costs have increased. Improving workers availability in Malaysia should mitigate some of the unit cost inflation as better 2023-24 FFB output is anticipated. All in all, we expect margins to stay subdued with the possibility of upside capped somewhat.

Recommendation: Maintain NEUTRAL. The sector offers highly defensive qualities, from resilient food and fuel driven demand to asset-rich NTA and undemanding valuations but margins are facing pressures from rising labour, fertiliser and transportation costs against easier palm oil prices. Within the sector, we prefer those with the ability to expand upstream such as KLK (OP, TP: RM25.50). TSH (OP, TP: RM1.35) has recapitalised substantially and is proceeding to expand its planted area from 40k ha to 60k ha while for investors prioritising yields, HSPLNT (OP, TP: RM2.50) looks attractive.

Source: Kenanga Research - 11 Jan 2023