Opportunity to Accumulate Plantation Stocks

The massive sold down in plantation stock is an opportunity to accumulate. Since beginning of July, CPO prices have dropped by an average 30-40%. Concern over mounting fear on CPO price down-cycle, weakness in Chinese demand and issue of sustainability of renewable energy, perhaps may have short-term pressure on share prices, but I see this an opportunity as good buying opportunity on further dips.

Unless crude oil prices to drop far below US$75 per barrel, the direct link of high crude oil prices to higher palm oil prices will keep the latter at a reasonably high level due to its usage as biodiesel raw material. Moreover, rhetoric by OPEC to cut production at its next meeting on September 9 supported commodity prices as well. According to my discussion with senior management of Kuala Lumpur Kepong two weeks ago, they are expecting a floor price of RM3,000/mt level and 2009 prices in the range of RM3,200/mt and RM3,700/mt respectively. The leading industry analyst Dorab Mistry says that crude palm oil futures need not go lower than 2,200 ringgit per tonne in the next few weeks if oil prices stabilise around $100 a barrel with a 10 percent range.

Furthermore, demand from China remains strong, especially as successive years of yield declines have forced more imports of both grains and oil seeds. Coupled with rising middle class, this has raised consumption per capita for this commodity and I believe this is unlikely to drop drastically anytime soon. The recent slowdown in Chinaʼs CPO demand was mainly due to the release of inventory to counter inflation.

Bioethanol has already made an imprint in the US gasoline demand. Last year, Americans purchased more than 75 million gallons of such fuels, triple the amount in 2004, according to the National Biodiesel Board. The plan by Indonesian government to implement a nationwide mandatory 2.5% palm biodiesel blend, starting in September 2008 would be another supporting factor for palm oil prices.

In short, tight supply and high demand fundamentals support the bull case for commodities while speculation amplifies price trends. Based on the current P/E, some plantation stocks are already near their low cycle PE. With a production cost of less than RM1,000 per tonne, the profit margin is still attractive, in my view.