HLG upgrades plantation sector

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The current crude palm oil (CPO) prices of around RM1,900 per tonne are “sustainable with upward bias”, said HLG Research which yesterday upgraded its recommendation on the plantation sector to positive from neutral, citing improving demand and supply situation helped by several factors, including replanting incentives by the Malaysian Palm Oil Board (MPOB).

Other positive factors included higher exports to China, India and Pakistan as well as expectations on CPO being used as a substitute for more expensive food oil. The latter, it said, would see CPO/soybean oil spread narrow further. The spread, which has narrowed to about US$618 (RM2,256) per tonne over the last six months due to the strengthening US dollar and substitution effect, is still some 25% to 55% above the normal band of RM400 to RM500, the research house said. CPO prices had recovered 24% the past three months, and plantation stockpiles are still some 40% to 50% below their 12-month high, it noted.

“Under our positive outlook on CPO price, the strategy is to stick to purer CPO plays and trade the CPO volatility (as we think the downside is capped),” HLG said.Its top pick for the sector are Asiatic Bhd and IJM Plantations Bhd due to their 15% valuation discount to HLG’s implied CPO price while being the most correlated pure mid-cap planters to CPO price movement.

“On an implied CPO basis, the larger plantation players are currently at 10% to 60% premium to the sector average. IOI leads the pack at RM3,245/tonne, but deserves to trade at a premium due to its superior production yield. Mid-cap and smaller plantation plays are valued at an average of RM1,730/tonne, still 20% discount to our long term RM2,200/tonne implied CPO assumption,” it said.

For exposure to large capitalised stocks in the sector, HLG recommended Kuala Lumpur Kepong Bhd while Al-Hadharah Reit and Kulim Bhd are its dividend yield and value pick respectively, HLG said.

On a price-to-earnings basis, Malaysian planters are trading at a premium to their regional counterparts due to their purer exposure to the CPO price, it added.HLG has a buy on Sime Darby Bhd (RM6.40 price target), Asiatic (RM5.20 price target), IJM Plantations (RM2.50 price target), Kulim (RM8.30 price target), and Al-Hadharah Reit (RM1.50 price target). It has a hold recommendation on KLK (RM11 price target) and IOI Corp Bhd (RM3.60 price target).

At yesterday’s close, Sime Darby climbed 20 sen to RM5.85, Asiatic added 10 sen to RM4.20, IJM Plantations put on four sen to RM2.09, Kulim rose eight sen to RM4.88, Al-Hadharah Reit inched up one sen to RM1.04, KLK surged 60 sen to RM10.60 and IOI Corp jumped 18 sen to RM3.90.

This article appeared in The Edge Financial Daily, March 24, 2009.