El Nino: A wild card for planters

by Adrian Lim bizhive@theborneopost.com. Posted on July 13, 2014, Sunday

Weather, as one of the more important aspects for palm oil planters to worry about for their production during the year, is rapidly changing.

A sudden change in weather condition – especially dry and hot weather for a extended period – can negatively affect production and output of palm oil.

As one of the plantation experts Dorab Mistry said, the weather is expected to shape the production and price of the crude palm oil (CPO) this year.

“In the event that El Nino develops, I believe CPO futures will cling to RM3,000 beyond June.

“(Palm oil) production is likely to be affected from late 2014 onwards and we may be staring (at) RM3,500.

“However if rains come as normal and the high cycle kicks in from July onwards, prices can trade in a range between RM2,900 and RM2,600 from July until October.

“Palm oil production is under-performing and stocks are tight,” he said during a palm oil conference in Kuala Lumpur earlier this year.

At the same time, Mistry highlighted some new developments within the oil palm industry which could steer the palm oil market into a new dynamic cycle.

“There is going to be a big expansion of bio diesel capacity in Indonesia in the near future.

“This capacity will require bio diesel producers to lock in palm oil prices at least one year in advance. Almost all of them will be plantation linked.

“Hence, the availability of freely tradable palm oil will become somewhat restricted. It will also require much larger stocks to be maintained.

“Therefore, palm oil stocks will need to be much larger before they begin to exert any pressure on prices.

“For these reasons, I believe the Indonesian mandate is truly a ‘Game Changer’ and will keep palm oil prices relatively high for a long time,” Mistry observed.

On the contrary, he believed there is a small likelihood of production surpassing expectation if rainfall is better than normal.

“If prices of Brent (crude oil) fall and production of world oilseeds is also as expected, palm oil prices can fall below RM2,400 but that possibility is no more than 30 per cent,” he pointed out.

While Mistry, a director of India-based Godrej International Ltd, has his own view on the palm oil market, local analysts hinted at a similar scenario, citing  change in weather conditions and palm oil inventory level being the prime aspects affecting the outlook of the plantation industry.

M&A Securities Sdn Bhd (M&A Securities) in a report dated June 26 entitled ‘Betting on El-Nino for palm oil price up-cycle’ said weather plays an important role in the supply equation of production and yield, and particularly one of the key catalysts of CPO price movement.

The hot and dry weather of late is expected to persist for another few months as predicted by the Malaysian Meteorlogical Department. The situation has cause caustic reaction as people wonder whether El-Nino spell had started or otherwise.

Citing the Department of Meteorlogical Malaysia, M&A Securities said the current situations are due to the Southwest Monsoon (dry season for Malaysia) that has started in May and is expected to persist until September.

Surveys by international weather forecasters still indicated that there is a 70 per cent likelihood of the El Nino happening in 2014.

 

Potential effect of El Nino on palm oil production

Plantation experts have estimated that El-Nino could potentially reduce production up to 30 per cent during normal time depending on severity.

As a result of lower production and lesser yield, the situation could cause the supply of  palm oil inventory to be tight.

Already languishing from lower exports and stocks level compared with last year, industry players are anticipating the dry weather to be a potential factor that could exert pressure on CPO price to trade higher.

Ling Ah Hong, a director of Malaysian plantation consultancy and investment company Ganling Sdn Bhd who shared his views during a palm oil conference, said El Nino is normally followed by a surge in palm oil prices due to disruption of supply.

He noted that historically, when El Nino develops, palm oil prices increase.

Outlining two scenarios, he explained a moderate El Nino will reduce global supply growth in 2015 to less than 0.5 million tonnes while a severe EL Nino will result in a contraction of 0.6 million tonnes, subsequently leading to severe supply tightness in the world.

Another factor which Ling strongly believed could cause CPO price to trend higher in the future, is the tightening supply of palm oil inventory.

Giving an outlook for CPO price, he indicated that the price could be moving higher next year.

“We expect palm oil prices to trend higher in 2014 and 2015. (The) average price for 2014 is expected to increase by about 14 per cent to RM2,700 per tonne against RM2,360 per tonne in 2013.

“This will be supported by steady demand from food and additional demand of two million tonnes from Indonesia domestic biodiesel usage.

“Looming palm oil supply tightness due to past and emerging dry weather will be a key catalyst to upward price movement in 2015.

“Plantation companies in Indonesia and Malaysia should generally fare better this year (compared with 2013),” he observed.

Ling also observed that Sabah and Sarawak planters should witness a recovery in production this year as both geographical locations have expereinced no prolonged rainfall deficit  in 2012 and 2013.

Whether rain or dry season is coming, analysts are cautious on the sector’s prospect at present.

Sector outlook and analysts top pick

Despite the possible occurance of the El-Nino, analysts have yet to call the shot of a “buy call” on the plantation sector.

Most of them are forecasting the sector to perform largely in line with expectations with an upward bias.

Malaysian Palm Oil Board (MPOB) which released the palm oil statistics for June on July 10 revealed that the palm oil inventory fell to one-year low.

The research arm of JF Apex Securities Bhd (JF Apex Research) in a report said despite going into high production season, CPO production was lower in June, down 5.26 per cent on monthly basis after growing 6.5 per cent in May.

It observed that the drop of CPO production in June was steeper than market expectations of 0.4 per cent decline as surveyed by a news agency.

JF Apex Research analyst Jessica Low said, “We reckon that the steep fall of palm oil inventory in June to one-year low is a positive surprise to the plantation sector and would support CPO prices.

“The CPO production was under pressure in June as a result of laggard effect of drought in January.

“Looking ahead, we expect CPO production in July to ease further before resuming its uptrend in August, as harvesting days will be fewer in July due to the Hari Raya festival.

“Meanwhile, spot CPO prices are moving around RM2,430 per metric tonne (MT), its nine-month low level.

“We feel that the current CPO price had factored in the adverse effect and expect limited downside for CPO prices,” she said.

For exposure to the plantation sector, most analysts believe that TSH Resources Bhd (TSH) is one of the best performing plantation companies throughout Malaysia.

They believed earnings of TSH is poised to grow healthily over the next few years supported by higher FFB production and better FFB yield on matured palm oil plantation.

The research arm of Public Investment Bank Bhd (Public Invest Research) in a report dated March 20 said TSH’s young Indonesian estates amidst the bullish CPO price movements will see the company become of the biggest plantation gainers this year.

The research firm even highlighted that the plantation company’s young  age profile of its oil palm plantation is the growth driver.

Public Invest Research said close to 78 per cent of TSH’s total planted are are below seven years old, with an average age of about six to seven years old.

“We believe the company will be able to maintain its double-digit fresh fruit bunches (FFB) production growth in the next couple of years, albeit at a slower pace driven by its young (tree) age profile.

“In addition, there is unplanted landbank of 23,815 hectares and 53,430 hectares in Malaysia and Indonesia respectively, pointing that there will be continuous expansion in the company for the next 10 to 15 years.

“In the next five to 10 years, we believe the company will rank on par with big capitalisation plantation companies once it has achieved sizeable mature area,” the research firm said.

In the meantime, Public Invest Research is expecting the company to register strong earnings growth this year.

The research firm had forecasted a strong jump for TSH group’s earnings this year supported by increases in palm oil production and CPO prices which will highly benefit the company in being a pure upstream plantation player.

Nonetheless, its forecasts are based on the assumption of 16 per cent rise in FFB production and full-year average CPO price of RM2,750 per metric ton, which is significantly stronger than the average CPO price of RM2,251 per MT recorded last year.

Following a visit to TSH’s plantation estate in Palangka Raya, Central Kalimantan earlier, PublicInvest Research said the company’s plantation estate, PT Sarana Prima Multi Niaga Estate in Central Kalimantan boasted a total gross area of 7,198 hectares.

The research firm said the plantation estate, equipped with a 45 metric tonne per hour mill is producing FFB for TSH and is also one of the best performing mills for the company with an average oil extraction rate (OER) of 24.6 per cent for the last three years.

Hence, given higher FFB production for TSH and its young age profile of the company’s oil palm plantation, Public Invest Research is optimistic that the plantation company earnings will be sustained in the near future.

At the same time, the research arm of Kenanga Investment Bank Bhd (Kenanga Research) and RHB Reseach Institute Sdn Bhd are both upbeat about the company’s financial performance for financial year 2014 (FY14).

Obviously, analysts are sounding the drum after TSH’s financial results for the first quarter of 2014 (1Q14) has largely beaten their expectations.

For 1Q14, TSH’s net profit jumped 162 per cent year-on-year (y-o-y) to RM52.17 million compared with RM19.93 million recorded in 1Q13.

RHB Research said the better than expected financial results was attributed to higher average CPO price realised and double-digit production growth.

Going forward, the research firm expects TSH’s new matured oil palm plantation in Kalimantan and improving FFB yield to lift its earnings for  upcoming quarters.

The research arm of MIDF Amanah Investment Bank Bhd (MIDF Research) also believed that the company’s long term growth remains strong supported by sizeable unplanted plantation landbank and new planting programme.

MIDF Research in a report dated May 23 said, “Given substantial portion of immature and young trees, we are optimistic on TSH long-term earnings prospect.

“TSH high proportion of immature and young trees will be the catalyst to support TSH’s earnings in the long-term.

“Furthermore, as at December 2013, about 66 per cent of its total plantation landbank is still unplanted.

“With new planting programme of approximately 3,000 hectares per year, we believe the growth story of TSH will remain intact,” the research firm noted.

As for Sarawak planters, most of them do not foresee the potential occurance of the El Nino to have an adverse impact on their production.

 

SARAWAKIAN PLANTERS OUTLOOK

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