SINGAPORE (May 23): Palm oil counters have been among the standout performers in this quarter’s earnings season. All but one have reported stronger revenue and earnings growth in the quarter ended March, based on a list of six companies compiled by The Edge Singapore as at May 17. The exception was Golden Agri-Resources, which posted a 60.1% decline in earnings to US$37.6 million ($52.2 million) on higher expenses and foreign exchange losses. Nevertheless, its revenue improved 37% to US$2.1 billion from US$1.5 billion a year ago. Meanwhile, First Resources was the best performer. Its earnings surged 807% to US$48.5 million from US$5.3 million a year ago. Revenue increased 71.6% to US$194.1 million.

Several planters have attributed their strong results to higher average crude palm oil prices in the quarter, as well as improved production volumes and yields. CPO prices averaged RM3,099.60 for the three months ended March, according to Bloomberg data, up 25.6% y-o-y from RM2,467.40.

But investors should not expect a repeat of this performance in the second quarter. Palm oil production in Malaysia — among the world’s largest exporters of the commodity — surged 18.2% in the first four months of the year, to 5.5 million tonnes from 4.7 million tonnes, according to the Malaysian Palm Oil Board. This was largely due to favourable weather conditions. In the same quarter last year, droughts related to the El Niño weather cycle had crimped production.

El Niño is a weather event associated with the warming of the central and eastern tropical Pacific, an area surrounding parts of Indonesia. The inverse La Niña event results in a cooling of the same areas.

Increased production dampening prices
As a result, palm oil companies are flagging the possibility of lower prices for the rest of the year. Already, CPO prices were down 12.8% y-o-y to RM2,886 as at May 17. In a press release accompanying its 1Q results, Wilmar International chairman and CEO Kuok Khoon Hong warned that lower CPO prices would affect the company’s plantation and palm oil mills operations, but they would be partially offset by higher production.

Likewise, First Resources notes in its outlook that palm oil prices have moderated because of improving supply prospects for palm and other edible oils, as well as muted demand from importing countries such as India and China. It adds that the longer-term fundamentals of the industry remain positive, despite the shortterm volatility in palm oil prices.

Olam International co-founder and CEO Sunny Verghese says he expects a “fairly strong” pickup in production beginning from the second quarter of this year. The commodities trader expects production in Malaysia and Indonesia to rise 6.3 million tonnes from a year ago, with combined production totalling 54.8 million tonnes this year.

“Our estimate for Malaysia palm oil production recovery is probably in the top range of consensus forecasts. We expect Malaysian CPO production to increase by 2.7 million tonnes this year, which would take total production to about 20 million tonnes,” says Verghese. “In Indonesia, the market consensus is that the crop will increase by 4.1 million tonnes to 4.2 million tonnes. But our house estimate is at the lower end of that range, at 3.7 million tonnes. That would bring production in Indonesia to 34.8 million tonnes.”

While Verghese is bearish on the palm oil market in the short term as a result of the recovery in CPO production in both Malaysia and Indonesia, he says the medium-term outlook will hinge largely on the weather in the second half of the year.

“El Niño in 1997 and 1998, which was one of the worst El Niños we have seen, was accompanied by a strong La Niña, which was positive for palm oil production. This time, La Niña is a weak one, so we don’t expect any big uptick as a result of the traditional pattern of a strong La Niña, following a strong El Niño,” Verghese says.

Moreover, there remains an “outside prospect of another El Niño in the second half of the year,” he warns. “It’s too early to call, but we are watching this closely to see whether there will be an impact. If there is a severe El Niño in the third or fourth quarter, there could well be some impact on the 2018 crop. But if El Niño is mild, then of course we will see a revival in production.” Verghese expects CPO prices to be in the range of RM2,200 to RM2,700 this year.

Ivy Ng, regional head of plantations and head of Malaysia research at CIMB Research, is slightly more optimistic. “Our view is that in the near term, prices may be supported [by] the upcoming fasting month, as well as the Hari Raya festival in June. With the festival coming up, there could be some workers taking time out to celebrate the festival, so harvesting of fruits may not be at its full potential,” Ng says. She expects CPO prices to average at RM2,600 this year.

Barnabas Gan, an economist at OCBC Bank, thinks demand for palm oil should remain sustained for the year. “Crude palm oil demand appears resilient, as recent export data reported by Intertek Malaysia indicates. Given the global growth and export recovery, palm oil demand, especially in key consuming countries such as India and China, will remain.” He expects CPO prices to weaken towards RM2,650 by year-end.

First Resources is top pick
Analysts appear to be most optimistic about the prospects for First Resources this year. Bloomberg data shows 14 “buy” calls and four “hold” calls on the stock. First Resources has also been the best performer this year, up 4.7% year-to-date.

Among those with a “buy” call is DBS Group Research, which has a price target of $2.15 for the stock. The research house expects First Resources’ production of fresh fruit bunches to increase 16% this year, and forecasts earnings growth of 41.5% for FY2017 ending December.

At the other end of the spectrum is Golden Agri, which has lost 14% of its value this year. Analysts are also least optimistic about this stock: There are three “buy”, eight “hold” and six “sell” calls. CIMB’s Ng, who has a “reduce” call and a price target of 37 cents for the stock, says the company has “unexciting output prospects beyond FY2017, as 47% of its estates are above 19 years old”.

Broadly, the oil palm planters have underperformed the benchmark Straits Times Index this year. Excluding Olam and Wilmar, which are typically valued as diversified agri-commodities plays, the sector has declined 5.4%. The STI is up 11.9% for the year to May 17.

This article appeared in Issue 780 (May 22) of The Edge Singapore.