Prices of crude palm oil (CPO) have corrected 28% since Indonesia announced the lifting of the export ban, offering the plantation sector some relief from further price deterioration, says UOB Kay Hian Research.
Indonesia’s palm oil industry has “clearly not benefited” from the high CPO prices over the last six months, add analysts Leow Huey Chuen and Jacquelyn Yow.
In a June 23 note, Leow and Yow are maintaining “market weight” on Singapore's plantation sector, and “buy” on Wilmar International with a target price of $5.50.
“After this CPO price correction, we are seeing some positives emerge to prevent further price deterioration. [For example,] it is commercially viable to increase biodiesel mandate or non-mandatory biodiesel blending, and demand recovery is in sight in India and China,” the analysts write.
CPO prices corrected 28% since Indonesia uplifted the export ban, hitting a 3-month futures low of RM4,493/tonne on June 22. “The sharp correction came earlier than expected. We attribute the sell-down on CPO to: the expectation of more exports from Indonesia (which we are yet to see happen) to reduce the high stocks domestically, rising recession risk also triggers the fear that demand may weaken further, and crops production output in Ukraine and Russia are better than expected,” write Leow and Yow.
In addition, the sell-down on CPO futures also may be due to the concern of liquidity withdrawal as the Fed tightened the monetary policy, they add.
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Indonesia’s CPO prices corrected more sharply. Indonesia’s domestic CPO net selling prices are estimated to have weakened by 35% since the exports ban was lifted on May 23.
This correction is slightly sharper than Malaysia’s spot and future prices, which declined by 21% and 28% for the same period of time. “We attribute this to the oversupply of palm oil domestically in Indonesia as the export is not fast enough to ease the high inventory pressure. Lower average selling price (ASP) and higher taxes have depressed the profit margin for Indonesian-based plantation companies, especially the upstream players,” they note.
Supportive factors emerging
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Leow and Yow believe the current price range is more reflective of fundamental factors, which is a reflection of the easing of supply tightness. “CPO prices should be stabilising as current prices induce demand from the biodiesel segment, China and India.”
They also see potentially more demand from the biofuel segment. “The palm oil-gasoil (POGO) price spread is turning negative, which means it is commercially viable to start non-mandated biodiesel blending.”
This is also encouraging amid the fuel shortage due to Black Sea Tensions, they add. “Just a week ago, Argentina raised the biodiesel blending mandate on the backdrop of supply scarcity together with high diesel prices.”
The demand recovery is already seen in China, after the palm olein price premium to soybean oil narrowed significantly, say the UOBKH analysts. “The price premium has dropped from around RMB4,000/tonne in late-April to around RMB1,900/tonne currently. After the sharp price decline, demand for palm olein in China has been improving over the past weeks.”
China’s palm oil inventory is at its historical low of 203,300 tonnes as at June 17, compared to the usual level of 400,000–600,000 tonnes. If the demand recovery sustains, China may need to increase the import of palm oil to meet the demand.
Finally, India may increase palm oil imports as margins turn positive, say Leow and Yow. “The positive import margins should encourage higher palm oil imports by India. This price correction comes at a time when India usually increases import of vegetable oil to meet the high festive demand.”
Similar to the situation in China, palm oil inventory in India was also at a low level of 240,865 as at end-April compared to its usual 600,000–700,000 tonnes of inventory. Negative import margin has stopped India from importing palm oil, they add.
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‘Buy’ Wilmar International
Wilmar’s food product margins should recover in 2H2022 with the correction in feedstock prices, say Leow and Yow. “Wilmar’s weak 1Q2022 performance was partly affected by the margins compression for its food products due to high feedstock prices despite selling price adjustments. The recent 20-30% agri-commodity price correction should be a big relief to this division and should show good improvement in 2H2022.”
In addition, China’s soybean crushing and soymeal sales have improved in tandem with the recovery in pig farming margin, they add. “The recovery in these two segments will be partly offset by the weaker earnings contributions from its upstream. Although the upstream earnings may not be as good as 1H2022, it is still much better as compared with 2019 and 2020.”
Compared to UOBKH’s $5.50 target price, CGS-CIMB Research analysts Ivy Ng and Nagulan Ravi have a higher target of $5.69.
“Wilmar’s upstream estates and downstream processing business in Indonesia will likely show lower profits in 2Q2022F before rebounding in 3Q2022F. We expect its consumer product business to benefit from lower raw material costs in 2H2022F. We estimate every US$10/tonne change in net CPO price assumption could impact its FY2022F net profit by 0.3%,” write Ng and Ravi in a June 22 note.
As at 12.46pm, shares in Wilmar International are trading 1 cent lower, or 0.25% down, at $4.01.
