Watch out for the heat in 1H16
El Nino presents a situational (and not a structural) play in 1H16 as the dry weather in 2015 which will lift CPO price will also impact FFB yield, resulting in just marginal earnings rise. Consequently, our fundamental call on the sector remains a NEUTRAL but there are trading opportunities in 1H16 on the back of the El Nino. Focus on the sector bellwethers in the three countries (IOI, FR, AALI), and undervalued small- to mid-caps (BAL, TAH and SOP). Downside risk is the low crude oil prices which may derail Indonesia and Malaysia’s biodiesel targets.
El Nino to lift CPO price outlook in 2016
While we maintain our 12M NEUTRAL view on the sector, we believe there are trading opportunities in 1H16 as the present strong El Nino (expected to last till May 2016) is expected to lift CPO price. We expect CPO price to hit MYR2,700/t and peak between Mar-May 2016, which corresponds with the low crop season. But we would turn cautious towards Aug 2016, anticipating sharp CPO price correction in view of seasonally peak CPO output period. Our 2016 and 2017 CPO ASP forecasts are unchanged at MYR2,300/t and MYR2,400/t.
El Nino is a situational, not structural play
The strong El Nino of 1997/98 resulted in a 16% YoY decline in Malaysia’s FFB yield to 16.0t/ha in 1998, but CPO production was only down 8% YoY in absolute terms as new planted areas came into maturity. In MYR terms, CPO price jumped 75% YoY to average MYR2,378/t in 1998. But stripping aside Asian Financial Crisis impact on the MYR, CPO price in US Dollars was only up by 23% in 1998. And while premature to discuss La Nina, it is worthwhile to be reminded that almost immediately after the 1997/98 El Nino, La Nina hit in 1999. La Nina boosted Malaysia’s FFB yield by 21% YoY in 1999 and CPO production rebounded strongly by 27% YoY. What followed was a disastrous 39% slump in CPO prices in MYR terms (to MYR1,450/t), and 35% in US Dollar terms (to USD436/t).
Low crude oil price could cap CPO price upside
The optimism on 2015/16 El Nino should be balanced against the overall weak global demand for commodities, especially crude oil. The low crude oil price could derail Indonesia and Malaysia’s ambitious biodiesel targets. On the bigger picture, the global 17 oils and fats’ stock-to-usage ratio in 2015/16F (per Oil World) is expected to remain in moderate supply even though it eases slightly to 13.2% (2014/15F: 14.0%) largely to reflect an expected reduction in palm oil supply due to El Nino. However this contrasts with ample global oilseeds supply.
U/G IOI, FR and BAL to BUYs; D/G BPlant to HOLD
Focus on the sector bellwethers in the three countries, namely IOI in Malaysia, FR in Singapore, and AALI in Indonesia. Only when share prices of these bellwethers move will the undervalued small- to mid-caps (BAL, TAH and SOP) follow. We upgrade IOI, FR and BAL to BUYs (from HOLDs). The Singapore planters have had sharp corrections of late. And we downgrade BPlant to HOLD (from BUY) given limited upside to our TP.
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