Regional plantations Europe-US marketing feedback – turning bearish - Macquarie Research

Event
􀂃 We visited about 60 clients across Europe and the US over the past two weeks to discuss the outlook for grains, oilseeds and CPO. Many clients have reduced their equities exposure in the plantations space. However, most are positive on a medium term structural story of demand growth
outstripping supply and prices staying relatively higher compared to historical levels.

Impact
􀂃 Have prices peaked – was the key question: Given the strong price performance of soft commodities including CPO over the past six months, most clients questioned whether prices have already peaked. We highlighted that we do believe that CPO prices have peaked and are likely to come off during the course of the year, as we expect production to grow in light of better fertilisation last year and a likely return to ENSO neutral conditions by the middle of this year. Most investors agreed with our analysis. The key risks to our thesis would be a significant shift in the US acreage away from soybeans this summer (which we believe is unlikely) and a spike in crude oil prices, which could increase biodiesel demand.

􀂃 At what point does crude oil - CPO correlation start to work again?
We highlighted to clients that a spike in crude oil prices following the tensions in the Middle East could increase discretionary blending of biodiesel. We believe that at current CPO prices, WTI prices of above US$125/bbl would make it economical to use biodiesel again. See Fig 1 for CPO break-even prices at various crude oil price levels.

􀂃 More interest in Singaporean names, worries over Wilmar:
Of all the stocks listed across Malaysia, Indonesia and Singapore, most clients preferred to look at the Singapore listed names due to their strong production growth prospects and good liquidity. Among the Malaysian companies, KL Kepong was a favoured pick due to strong production growth prospects and focus on the core business. We found that clients were most negative on Wilmar (WIL SP, NR, CP: S$5.31) due to negative soy crush margins in China at the moment, and risk of further earnings downgrades if China does not lift the price caps on veg oils and venture into the Chinese property market.

Outlook
􀂃 We are Neutral on the plantations sector for 2011. We see increasing production start to pressure prices, while a tight soy complex and rising crude oil prices could support prices. Our preference, therefore, is to own stocks that are still likely to grow their earnings in 2012, despite our assumption of an 11% decline in CPO prices next year or at least where the earnings decline in minimal. Based on this, our top picks are KL Kepong in Malaysia, London Sumatra in Indonesia and New Britain Palm Oil in London. We would be taking profits on IOI Corp, where we see limited growth prospects and on Genting Plantations, which has been the 2010 outperformer.