Plantation - Tree stress to last a while

Malaysia’s CPO inventory level for Apr-12 was reported at 1.85m mt, coming in at the lower range of the consensus estimate of 1.82m-1.92m mt. It was also 3% below our estimate of 1.90m mt as the tree stress effect had caused a deeper than expected production decline. With the total demand  increasing 4% against the total supply drop of 2%, the stocks-to-usage ratio  declined to 10.3% in Apr-12 (from 11.2% in Mar-12). On the supply side, CPO production slumped 17% YoY to only 1.27m mt in Apr-12. We believe that the data confirmed that the tree stress effect has intensified as the drop of 17% YoY in Apr-12 was worse than the YoY decline of 15% in Mar-12. We think that the tree stress effect may stay for a while with the worst case scenario of lasting for two years. On the demand side, exports was flat in Apr-12 at 1.33m mt as demand growth from the major CPO consumers was neutralised by lower demand from other smaller CPO consumers such as Egypt and Bangladesh. The fundamentals are leaning towards bullish CPO prices, which continue to support our OVERWEIGHT call on the Plantation Sector. We maintain our CY12 average CPO price of RM3,200 per mt but there is an upside bias if the tree stress effect worsens. We have OUTPERFORM calls on SIME (TP: RM11.60), GENP (TP: RM10.70) and IJM Plantation (TP: RM4.25)  on valuation grounds. To capitalise on their double digit FFB growth, we also have OUTPERFORM calls on Ta Ann (RM7.75) and United Malacca (TP: RM8.00). Meanwhile, we are maintaining our MARKET PERFORM calls on KLK (TP: RM23.60) and IOI (TP: RM5.60).

Apr-12 stocks level in the lower range of consensus expectations. The CPO inventory level of 1.85m mt was at the lower range of the consensus estimate of 1.82m-1.92m mt. It was 3% below our estimate of 1.90m mt as the tree stress effect has caused production to dip further than expected. As total demand increased 4%, and the total supply declining by 2%, the stocks-to-usage ratio eroded to 10.3% in Apr-12 (Mar-12: 11.2%). On the overall, the sustained drop in the stocks level to ow 2.00 mt is positive for CPO prices. Tree stress effect is more severe than expected. CPO production slumped 17% YoY to only 1.27m mt in Apr-12. We believe that the data confirmed that the tree stress effect has intensified as the drop of 17% YoY in Apr-12 was worse than the YoY decline of 15% in Mar-12. Apr-12 production was also 2% below the market  estimate of 1.29m mt and 14% lower than our estimate of 1.47m mt. We believe that there is still long way to go before the tree stress effect ends. In the past 10 years, the worst CPO production down-cycle due to tree stress lasted for more than 2 years. As this round  of tree stress is only 2 months old, we believe that it will be some time before one can see a significant increase in production again. 

Resilient demand from China, India and Europe supportive for CPO prices. Exports was flat in Apr-12 at 1.33m mt as demand growth from major CPO consumers was neutralised by lower demand from the other smaller CPO consumers such as Egypt and Bangladesh. Among the key CPO consumers, the highest growth came from India (+104% MoM to 245k mt), Europe (+18% MoM to 204k mt) and China (+6% MoM to 274k mt). The strengthening CPO exports to India were probably caused by a shift of demand towards cheaper CPO instead of soybean oil, which has appreciated significantly. European demand for palm oil may have increased due to higher usage of it as a cheaper feedstock for biodiesel after winter ended. The increase in exports to China may reflect continuous aggressive buying from the country to hedge against potentially worse-than-expected droughts in South America.

Tight US soybean production positive for CPO prices. It appears that chances are now slimmer for US soybean to exceed the low planting intention of 73.9m acres. We understand that plantings for most crops in US have intensified due to the good weather. Spring plantings had a very good start with corn as the key beneficiary. Corn sowings until 29 April was 53% completed over the intended area (significantly higher than last year’s 12% and the 5-year average of 27%). The rapid planting progress should result in very large corn plantings, and hence less acreage for soybean. In order to cover the lower soybean oil supply, CPO demand will have to increase given its use as a soybean oil substitute, and hence offering more upside for CPO prices ahead.  

Source: Kenanga