Achmad Syafriel, Researcher
Predicting commodity prices including for CPO is never an easy task. While data may show a certain trend in price propensity, actual materialization on pricing may be entirely different.
To forecast CPO prices is not only a simple supply demand equation but it also includes other various variables, which are equally unpredictable such as the weather, prices of substitute products (e.g. soybean and rapeseed) and global economic conditions.
In an effort to estimate CPO prices this year, we attended the 2009 Indonesian Palm Oil and Price Outlook Conference in Bali.
Many speakers believed that the CPO price would decline to an average of US$550-$600/MT compared to a recent peak of $760/ MT.
It is worth noting that one year earlier at the same conference, CPO experts there believed prices would stay above the $1,000/MT mark.
But what actually unfolded was very different. Although CPO prices hit an all-time high at $1,325/MT in March 2008, by October 2008 the weight of the global economic slowdown finally deflated CPO prices to a low of $360/MT, down 73 percent from the March peak.
This is clearly testimony to the difficulty in assessing the predictability of CPO prices.
Since the end of the third quarter of last year, CPO prices were expected to stay low throughout 2009 on depressed demand and abundant supply as inventories piled up in both Indonesia and Malaysia.
On the demand side, the slowing economies of China and India, major importers of CPO, would adversely impact consumption levels of edible oils.
But again, predicting the CPO price is never easy.
Instead of staying low, CPO prices recovered from a bottom level of $360/MT to around $500/MT by January 2009, supported by the Chinese New Year in January.
Moreover, CPO prices stayed strong thereafter, spiking to $760/MT, and averaging $586/MT year-to-date.
To obtain first-hand information on local CPO demand, we met with Mr. Sahat Sinaga, the chairman of the Indonesian Vegetable Oil Industry Association (GIMNI).
From this meeting, we learned that there has been no reported fall in CPO demand from Indonesia's domestic cooking oil industry in the first quarter of 2009.
Apparently, the occurrence of CPO overstock in the last quarter of 2008 reflected buyers postponing purchases following lower CPO prices. In his view, it was just a matter of time before available supplies would be absorbed.
Talking to some CPO traders also revealed that there has been no fall in demand from overseas markets.
The bulls are saying that the domestic market should be able to absorb the unsold production from any reduction in export markets.
The question is whether CPO price resiliency is truly supported by demand or is this just another price bubble in the making.
In our view it is worthwhile to analyze this problem given that the global economic slowdown is still in place, with China and India still experiencing lower GDP growth.
On the supply side, according to Mr. Derom Bangun, vice chairman of the Indonesian Palm Oil Board, the supply of CPO and its derivative products from both Indonesia and Malaysia declined 20-25 percent from a year earlier in quarter one.
According to the latest United States Department of Agriculture report, the position on CPO stocks at the end of this year is expected to be slightly lower than last year's level at 4.02m MT down from 4.1m MT.
By 2010, ending stock is expected to fall 5.5 percent year-on-year down to 3.8m MT as world domestic consumption is expected to increase 5.2 percent year-on-year, slightly higher than the production growth of 5.1 percent year-on-year.
CPO exports to China and India are expected to increase 6 percent year-on-year and 15 percent year-on-year respectively to 5.5m MT and 5.2m MT this year and to further increase to 6m MT and 5.3m MT in 2010.
It is worth noting that it is not only CPO that is experiencing demand improvement as prices of other commodities (both soft and hard) have also increased in the second quarter of 2009.
In our view, liquidity flow amid optimism of economic recovery after the G-20 Summit in April also played a significant role in the recent spike in commodity prices.
Investors tend to invest in commodities which they believe would be in high demand once the global economies recover in 2010.
China currently has a policy of building up several commodity inventories including soybean and CPO. In our view, this could be part of China's hedging strategy, considering China's huge reserves in US dollars, which is currently weakening against other currencies.
In summary, the current CPO price increase is supported by supply demand data.
However, with true fundamental recovery in the global economy still remaining uncertain, we believe the demand-supply situation on CPO could also temporarily change. Thus, what is fact today could indeed turn to fiction tomorrow.
As such investors should remain vigilant to ensure that their CPO-related investments remain real and do not become part of the story of yesterday.The writer is an analyst at the research department of Bahana Securities