The rise and fall of CPO prices:
CPO prices had a good run since end of last year with prices rising from RM2,800/MT in Oct 2011 to RM3,500/MT in April 2012. The rise in CPO prices was a result of a confluence of factors, including the rise in crude oil prices, unfavorable CPO production in 1H2012 coupled with tight supply of soybean in the US due to drought.
What gave way to slide in CPO prices?
Nonetheless, after rising to the peak of RM3,500/MT in Apr 2012, CPO
prices reversed direction to fall by 36% to RM2,250/MT in Sept 2012, brought by
concerns of oversupply of palm oil, decreased exports to China, more favorable
forecasts of soybean oil supply as US drought could have peaked in Sept 2012
and to a lesser extent a drop in crude oil prices (though it rebounded again to
RM113/bbl after hitting a trough of US$95/bbl in June 2012).
Strong production in Sept
2012: The sharp drop in CPO prices in Sept 2012 was
mainly caused by a surge in palm oil stocks, driven by strong production growth
and weak exports. CPO production posted a strong growth of 20.4% mom and 7.2%
yoy to 2.004mil MT in Sept 2012 after a lackluster production in the first 8
months of this year. In terms of yoy, Sept month was also the first month to
post production growth in 2012. However, YTD production growth was still at -5.1%
yoy.
Surge in palm oil stocks: Owing to huge rise in production offsetting the
slight mom increase in exports, CPO stocks rose by 415K MT or 35% mom to 1.61mil
MT, the highest in more than 5 years. Expectedly, CPO prices dropped more than
other competing vegetable oils such as soybean oil and rapeseed oil. Soybean
oil prices had been holding up exceptionally well at above RM3,700/MT, a level
seen back in early 2011 when CPO prices were trading at above RM3,500/MT. According
to HwangDBS, Malaysia might face a shortage of palm oil storage capacity owing
to surging inventories. This could further induce CPO exporters to dump more
stocks into the export market and add pressure to CPO prices.
Lackluster CPO prices for
now, but won’t be for long?
Malaysia’s CPO export tax
cuts and biodiesel program: Malaysia government
will abolish duty-free CPO export quota (2012: 5.0-5.6mil MT or ~25% of total
Malaysia CPO production) and cut export taxes to 4.5%-8.5% from current 20-23%.
These measures could help upstream players to export CPO with reduced taxes
(except for CPO producers with duty-free CPO export quota). However, CPO
exports in the past never exceeded CPO export quota, thus CPO exporters will
actually have to pay more to export CPO owing to the abolished CPO duty-free
quota. This will instead benefit downstream players such as refiners as
refiners could purchase CPO at prices slightly higher than spot CPO prices net
of export tax. The refiners could take advantage of the weaker CPO prices to
gain better margins, which could help reduce palm oil
stocks. Having said that, these measures will only be implemented starting
2013, thus the impact will be minimal.
On the other hand, the Malaysian government is mulling implementing
B10 biodiesel program that could increase CPO consumption by around 300K MT per
year to help reduce palm oil stocks. Nonetheless, the timeframe for this
program is not known yet, thus its impact to CPO prices might not be visible in
the near term.
Discount to soybean
prices, potentially create a shift in demand for CPO: CPO prices are currently trading at a substantial discount of 30% or
RM1,100/MT to soybean oil, the largest discount since early 2009. It is
interesting to note that the price discount will tend to tighten back after
reaching 30-35% over the past 10 years, save for the dotcom burst in 2001 and
the GFC in 2008. Owing to the expected ongoing tight supply of soybean oil
coupled with its higher pricing, substitution effect could take place soon.
A closer look at the stock-usage ratio (S/U) of vegetable oils shows that it has been tightening over the past decade, with 2012/13 being more severe than the previous years. Soybean oil in particular had a sharper drop in S/U as compared to the average S/U of vegetable oils by decreasing from 8.5% in 2011/12 to only 5.4% in 2012/13. On the other hand, S/U of palm oil still holds steady with only a slight drop in 2012/13. Thus, the shortage of soybean oil might cause a shift in demand for palm oil, the closest substitute to soybean oil, to address the shortfall.
What
should investors do?
Peak production in Oct: Historically, CPO production usually peaks in Oct and thereafter
starts declining to hit the trough in Feb. As such, supply glut could ease over
the next few months, provided that exports and consumption remain resilient or
pick up again.
KL Plantation Index not
falling as much as CPO prices: Despite CPO prices
declining by 35% and 26% since Apr 2012 and Jul 2012 respectively, KL
Plantation Index only shed around 7%. One of the reasons could be the market
perception that the sharp drop in CPO prices would be temporary and does not
reflect a new trend for CPO prices. However, should the palm oil stocks remain
persistently high aided by weak exports over the next few months, investors
might start to take their chips off plantation counters and trigger another
correction for plantation counters. It does not help as well for CPO prices
when Dorab Mistry, the director of Godrej International Ltd predicted that palm
oil stocks could reach 3mil MT from current 2.5mil MT by Jan 2013.
In addition, upcoming quarterly results season is coming with most
plantation companies releasing their reports in Nov 2012. There could be
further downgrades by analysts owing to disappointment in earnings.
Thus, there is likelihood that plantation counters might undergo further
correction before staging a rebound towards the end of the year.
Monitor for now, safer to
invest towards end 2012 or early 2013?: For now, it would be safer to
remain on the sideline and monitor the palm oil exports (Substitution effect with greater demand for CPO in view of higher pricing and shortage of soybean oil supply?), MPOB data (Oct
will still be a good month for production, thus palm oil stocks could rise even
further when monthly MPOB data is out in Nov) and quarterly results of
plantation companies (Most will be out in Nov and there could be further
downgrades from analysts). CPO prices could recover during 1H2013 back to
RM2,800/MT levels as 1H palm oil production is historically lower
than 2H by about 25-30%. Wait and see.
KL Plantation Index