Malaysia’s crude palm oil (CPO) production rose in June 2010 by a minimal 2.5% month-on-month (m-o-m) to 1.42 million (m) tonnes, while exports rose by a larger 5.5% m-o-m to 1.44m tonnes.
On a year-on-year (y-o-y) basis, production was slightly lower, falling 1.8% y-o-y but exports rose by a higher 12.6% y-o-y.
As a result of the larger rise in exports versus production, closing CPO stock levels fell to 1.45m tonnes in June (from 1.56m tonnes in May).
Most notably, the m-o-m increase in exports was to China (+13.8%), India (+54.3%), Egypt (+75.3%), Pakistan (+21.1%), Ukraine (+20.3%) and the EU (+22.8%); offset by a decrease to Benin (-50.4%), Iran (-22.3%), UAE (-25.8%) and the US (-57.9%).
As a result of the lower CPO stock levels, stock/usage ratio fell further to 7.8% (from 8.5% in May and versus the seven-year average of 9.1%).
However, going forward, notwithstanding any effects of adverse weather, we expect this to potentially start reversing from next month onwards, as it approaches the peak seasonal production period.
Three short-term negative and long-term positive developments
We noted a few main developments in the sector in the form of three long-term positives and three short-term negatives.
Long-term positives are: (1) a continued decline in stock/usage ratios for the eight vegetable oils expected in 2011; (2) an increase in the biodiesel mandate in Argentina for 4Q10 and 2011; and (3) a continuation of La Niña temperatures which could have a longer-term impact on production.
Short-term negatives are: (1) the possibility of a reduction of Argentine export tax; (2) the USDA planting data report — which showed increased soybean acreage; and (3) the reduction in competitiveness of CPO vs soyoil.
Long-term positives in form of continued decline in stock/usage ratio for 2011 for eight oils
Oil World has released its latest estimates for Oct/Sept 2010/2011, which continues to see a decline in stock/usage ratio of the eight global vegetable oils to 10.6% in October 2011 (from 10.9% in 2010), on the back of a 4.4% y-o-y growth in production and a 4.1% y-o-y growth in consumption.
The growth in production is mainly expected to come from palm oil (+5.6% y-o-y) and soybean oil (+7.1% y-o-y), although this is offset somewhat by an expected decline in rapeseed oil production (-2.7% y-o-y).
On the demand front, the consumption growth is expected to be driven mainly by soybean oil (+7.5% y-o-y), followed by palm oil (+4.8% y-o-y), while rapeseed oil consumption is projected to fall by 1.4% y-o-y.
Out of the total projected consumption for 2011, 50% is expected to come from the biofuels sector, based on the global mandates in place.
With these new projections, Oil World sees the global market for vegetable oils to remain tight, with the world market struggling to increase production sufficiently to meet requirements, and consumers becoming more reliant on the supply of palm oil and soya oil.
As a result, Oil World expects to see vegetable oil prices remaining firm and strengthening in the year ahead.
China’s ban on Argentinean soyoil is still in place, despite many naysayers saying it would not last. The government has finally responded to this by increasing the admixture mandated for biodiesel to 7%, most likely to be implemented from September 2010 onwards (from 5%, which was mandated from March 2010 onwards).
It is likely that this mandate will be raised further to 10% by January 2011, while the government is also building more power plants to be fuelled by biodiesel so as to increase domestic demand for soyoil. This will serve to reduce soyoil supply from Argentina in the longer term, and therefore result in increasing reliance on palm oil for the food industry.
La Niña
According to the climatic models, sea surface temperatures in the central equatorial Pacific have continued to cool over the past fortnight, and are consistent with the developing stages of a La Niña event.
The majority of climate models surveyed by the Bureau suggest current patterns and trends will continue, with a significant likelihood of further ocean cooling beyond La Niña thresholds, and the chance of a La Niña in 2010 is now clearly more likely than not.
The Southern Oscillation Index (SOI) remains in positive territory, and was around +1.8 in June (+10.0 in May). Should this sustain at above +5.0 for another few consecutive months, this would be a confirmation of La Niña, the impact of which, would be felt on harvesting immediately, and on production nine-12 months later.
Possibility of reduction of Argentine export tax
In Argentina, at the end of August, the special power given by Congress to the Argentine government ends and the opposition is expected to enforce changes to export taxes. Some of the scenarios being put forth include the elimination of export taxes on wheat, corn, sunflower seed and products and a reduction in soybean export tax for the smaller farmers.
Although this is still very preliminary and a very politically-sensitive situation, we are wary of the negative consequences of such a move on the global vegetable oil market and prices.
USDA planting data report
The USDA planting data report released at end-June showed an increase in the soybean acreage estimates of 1% from end-March’s intentions, while corn acreage showed an opposite 1% decline from end-March’s intentions.
For corn, the planted acreage was 1.7% (or almost 1.5 million (m) acres) below consensus expectations, while for soybean, the planted acreage was 0.8% (or about 0.6m acres) above consensus expectations.
All in, this would mean a 2% y-o-y increase in both soybean acreage (to 78.9m acres) and corn acreage (to 87.9m acres) in 2010. This indicates the US farmers’ expectations that margins for soybean would continue to be better than that of corn going forward into the next crop year.
With the larger soybean crop expectations based on planted acreage, and near-record global soybean stocks of an estimated 69.9m tonnes as at end-September 2010, this could see global soybean stocks rising by 7% y-o-y in September-2011 to as high as 74.8m tonnes.
While this would seem to have a bearish impact on CPO prices, we note that this depends very much on how much soybean is actually crushed and exported out, which in turn would depend on the crushing margins at the time of harvesting.
Reduction in competitiveness of CPO vs soyoil
In the last month, the discount between CPO and soyoil has narrowed to US$82 (RM263.22)/tonne and is now lower than the average historical levels of US$100/tonne (from an average of US$89/tonne last month), while the discount between CPO and rapeseed oil has widened to US$103/tonne (from US$87/tonne last month).
Given the narrower discount between CPO and soyoil, we expect to see demand rebalancing happening again in more price-sensitive markets like China and India. This is already expected in India, where a shift in Indian import demand towards soyoil in the second half of the Oct/Sept 2009/2010 crop year would result in imports of CPO falling by 7.3% y-o-y in Oct/Sept 2009/2010, as compared to a 57.5% y-o-y projected increase in soyoil imports. This can already be seen happening in YTD June 2010, as Indian imports of Malaysian CPO have fallen 18.1% y-o-y to 566.8m tonnes.
Cautious ST outlook maintained, although LT outlook still positive
Based on the recent developments noted above, we summarise that the near-term outlook remains cautious with no significant positive catalysts for CPO prices at the moment.
In the longer-term, supply and demand statistics remain positive, while weather uncertainties remain an upside risk to prices, all of which would support CPO prices above RM2,000/tonne for the long term.
CPO price forecasts maintained
No change to our forecasts as we maintain our CPO price forecasts of an average of RM2,500/tonne for CY10, RM2,700 for CY11 and RM2,500 for CY12.
Main risks include: (1) a significant change in crude oil price trend resulting in significant movement of CPO and other vegetable oils prices; (2) weather abnormalities resulting in an over- or under-supply of vegetable oils; (3) change in emphasis on implementing global biofuel mandates and trans-fat policies; (4) significant changes in trade policies of vegetable oil importing or exporting countries; and (5) sharper-than-expected global economic slowdown.
Neutral maintained
We are maintaining our neutral recommendation on the plantation sector, as we believe there are not many positive catalysts which would move CPO prices up in the near term, and therefore expect plantation companies’ share prices to remain lacklustre until this scenario changes.
Despite this, we continue to have outperform recommendations on some stocks within the sector including Singapore Exchange-listed First Resources (FV = S$1.35 (RM3.13)), KL Kepong (FV = RM20.55), IOI Corp (FV = RM6.65) and CBIP (FV = RM3.70), while we maintain our underperform recommendations on Sime Darby (FV = RM8.15), Genting Plantation (FV = RM6.50) and IJM Plantations (FV = RM2.30).
This article appeared in The Edge Financial Daily, July 14, 2010.
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