Plantation Sector - 2017 Outlook ~ Improving fundamentals
- Yield recovery and steady prices to boost FY17F earnings.
- Demand to be supplemented by biodiesel blending in Indonesia.
- Beneficiary of strong USD.
- Top picks: BAL, IFAR.
- Three key issues will shape the sector over the next 12 months: (1) tight inventory; (2) higher biodiesel blending; and (3) strong US Dollar.
- We have recently upgraded our view to Neutral; premised on reduced downside risk to prices.
Tight inventory continues.
- A significant 8% y-o-y recovery in global palm oil supply next year (low-base effect) to 64.3m MT is no relief, as we expect biodiesel blending in Indonesia to pick up – together with export levy collection. Demand is forecast to expand towards 64.5m MT.
Watch out for strong US Dollar.
- We expect palm oil prices to average US$618/MT next year – 2% y-o-y lower – on record US soybean harvests. Yet, in local currencies, we expect prices to increase. Together with yield recovery, we believe quarterly earnings have bottomed in 2Q16
- Given La Nina conditions, there could be supply disruptions in soybean production in South America in 1Q17; this may have higher price implications on palm oil.
- Yield recovery. Stronger-than-anticipated yield recovery would be bearish for prices.
- India is the largest consumer of palm oil. Should the Indian government raise import tariffs, there may be lower demand for palm oil. Headwinds from demonetisation reform are expected to temporary curb demand through 1Q17.
- Volatility in crude oil prices/US Dollar.
Valuation & Stock Picks
Focus on yields.
- Empirical studies suggest that CPO yields have been a key driver for plantation share prices outside Bursa.
- Based on our analysis, First Resources (FR) yields have underperformed peers since 2013 – so did its share price.
- In Singapore, we recommend Bumitama Agri (BAL) and Indofood Agri (IFAR). We believe both stocks have the highest upsides based on our current target prices.
- Near-term catalysts for Wilmar - We expect Wilmar’s near-term oilseeds crush margin to remain strong on record US harvests. Spillover from delayed sugarcane harvesting will also contribute to 4Q16 earnings, while decent refining margin in 3Q16 is expected to continue. We understand the group will likely book tax credit in 4Q16 from Indonesian tax incentive on property, plant and equipment revaluation.