Palm Oil Rally Ending as Record Crops Signal 25% Drop (Update1)

May 11 (Bloomberg) -- Palm oil, used in everything from Twix candy to diesel fuel, may be poised to end its fastest rally in almost seven years and drop 25 percent as the world’s biggest growers reap record harvests.

Indonesia and Malaysia, the top two producers, may boost world supplies by 5 percent this year, according to government and producer estimates. India, the second-biggest buyer, will probably slow imports because of rising stockpiles, Citigroup Inc. said. The world’s most-used cooking oil, which is trading at 2,743 ringgit in Kuala Lumpur today, may average 2,100 ringgit ($600) a ton in 2009, Deutsche Bank AG analysts Su-Yin Teoh and Rachman Koeswanto said.

“We expect palm oil to weaken,” said Sunaina Dhanuka, an analyst at Macquarie Group Ltd. in Kuala Lumpur. “Production is likely to recover in coming months as weather conditions improve and exports are likely to slow down to exhaust the current stockpiles.” Dhanuka forecast an average price of 1,850 ringgit a metric ton this year in a May 5 report.

About $33 billion worth of the oil, squeezed from bunches of plum-sized fruit, is consumed each year for frying and in margarine, based on estimates from the U.S. Department of Agriculture and the current price. The European Union agreed last year that at least 10 percent of the energy used in road and rail transport in 2020 will come from renewable sources, such as vegetable oils.

Only Gasoline Better

Palm oil is the second-best commodity investment this year, with a gain of 62 percent. Only gasoline’s 67 percent jump has been larger among the biggest exchange-traded commodities, according to data compiled by Bloomberg. The cooking oil has climbed 97 percent from a three-year low on Oct. 24, its fastest gain since at least June 2002, according to Bloomberg data.

A drop to the level predicted by Macquarie would cut Malaysia’s export revenue by $4.9 billion, assuming no change from last year’s volume. Net income of Kuala Lumpur-based Sime Darby Bhd., the world’s biggest producer by market value, may drop 38 percent to 2.18 billion ringgit in the year to June 30, according to the median of 15 estimates compiled by Bloomberg.

Prices advanced this year as declining output in Malaysia, the second-biggest grower, caused inventories to shrink 43 percent from a record in November to 1.29 million tons in April, the lowest since June 2007, Malaysian Palm Oil Board data show.

More Supply

Supplies are likely to climb as palm trees enter their most productive season, said Citigroup analysts Penny Yaw and Margarett Go. Palms in Indonesia and Malaysia, which account for 90 percent of world output, typically yield 55 percent of their oil in the second half. Malaysia reaped 9.5 million tons from July to December last year, up 16 percent from the first half, according to board data.

Malaysia’s crop will total 18.3 million tons this year, Minister of Plantation Industries and Commodities Peter Chin said April 7, up 3.4 percent from 2008. The harvest in Indonesia may rise 6.8 percent to 20.5 million tons, said Susanto, the marketing head of the Indonesian Palm Oil Association, on May 8.

“I’m still fundamentally bearish,” said James Fry, managing director of UK-based LMC International Ltd., a consultant to the agricultural industry. “Prices are 300 ringgit to 400 ringgit too high,” he said by phone May 6.

The highest price in a year relative to soybean oil, its main competitor, is also encouraging expectations for lower prices. The two commodities are the world’s most consumed vegetable oils and can be interchangeable for frying, food preparation and fuel.

Argentine Crop

Soybean oil was almost twice the price of palm in October and is now only 10 percent higher, according to data compiled by Bloomberg. Futures show palm oil declining 9.4 percent by November and soybean oil rising 2.7 percent by December.

Supplies of soybean oil were limited after a drought in Argentina cut soybean production by 27 percent. U.S. soybean inventories will fall 20 percent from a year earlier to 165 million bushels by Aug. 31, a five-year low, the USDA said.

Demand for palm oil has risen so much that the market is now in so-called backwardation, where prices for prompt delivery are more expensive than those later in the year. India increased imports of crude palm oil 40 percent to 2.26 million tons in the five months to March 31 from the year ago.

“Imports will remain high in the coming months as there’s going to be no local supplies,” said B.V. Mehta, executive director of the Solvent Extractors’ Association in Mumbai. Vegetable oil purchases may rise 43 percent to 8 million tons in the year to Oct. 31 from the previous year, he said May 8.

China Purchases

Buyers built record inventories in India in anticipation of higher import duties in June, a signal that purchases may slow, Citigroup’s Yaw and Go said in a report April 21.

China, the biggest importer, may also curb purchases. The government warned against shipping “excessive” amounts of oilseeds last month because stockpiles were rising and shipments were set to jump. The country boosted soybean imports 30 percent in the first quarter to 10.2 million tons, according to customs. Inbound palm oil shipments gained 9.4 percent to 1.37 million.

Supplies may increase after the Northern Hemisphere harvests this autumn. U.S. farmers plan to grow a record 76 million acres of soybeans this year, the U.S. Department of Agriculture said March 31. Soybeans climbed 29 percent in the past two months, compared with a 15 percent gain in corn. That may convince growers to plant more soybeans instead of corn, Citigroup said.

Out of Line

About 10 percent of palm oil is used outside of foodmaking, according to the American Palm Oil Council. Prices may face more pressure because demand for biodiesel is waning after the 60 percent collapse in crude prices from last year’s record. Only subsidies make fuels viable at these prices, according to Credit Suisse Group AG. Crude climbed 10 percent last week in New York.

“Vegetable oil prices are again getting too high in relation to price-sensitive biofuel demand,” LMC’s Fry said. “Unless crude oil prices continue to defy the worst downturn in global demand for oil products since World War II, it is difficult to be bullish at current prices.”

Demand is suffering because of the global recession. U.S. soybean use fell 7.2 percent in March as domestic and overseas sales declined, the government said. Processors including Bunge Ltd. converted 4.34 million short tons of soybeans into oil and livestock feed, down from 4.679 million tons a year earlier.

‘Unsustainable’

The global economy is in a “severe” recession with “worrisome parallels” to the Great Depression, according to the International Monetary Fund. The Washington-based lender predicts the economy will shrink as much as 1 percent this year.

Palm oil this year will average 2,100 ringgit a ton, according to the median forecast in a Bloomberg News survey of eight banks, with predictions ranging from 2,500 ringgit to 1,850 ringgit. The most active contract on the Malaysia Derivatives Exchange averaged 2,067 ringgit so far this year.

Prices are “unsustainable” and will probably drop by 20 percent to 25 percent, said Deutsche Bank analysts Su-Yin and Koeswanto in a report May 1. Next year, prices will decline again to average 1,900 ringgit a ton, they said.

“It’s not economical to buy palm oil,” said Koeswanto by phone May 7.