Defying producer-friendly bullish predictions of some experts, palm oil prices have come under pressure following rising output and expanding inventory at the origins (Malaysia and Indonesia), matched by sluggish demand at consuming destinations.
The palm oil market has been deriving a price push from rising crude oil prices as also price spurts in major agricultural crops in the wake of weather scares. This may come to an end, at least in the short run as palm oil demand-supply fundamentals point to inventory pressure which in turn will result in an inevitable price correction.
Production of palm oil usually starts to expand from April; but this year it has begun to accelerate early. Admittedly, exports have been robust, but still not large enough to absorb or offset production increases. In other words, output forecast was under-estimated; and actual output increases have not been matched by market offtake with the result, crude palm oil stocks in Malaysia, the world's principal exporter of palm products, have been rising for three months in a row.
Production in Malaysia
According to Malaysian data, production has climbed steadily over the past four months to reach 1.74 mt in May, the highest level since October 2009. Stocks are now closer to the 2 mt mark. The recent sell-off in commodity markets in which even energy and industrial metals have not been spared has added to the woes.
A look at palm oil's major markets such as China, India and the European Union does not inspire great confidence about price performance in the near-term. China, already a price-conscious market, has ample State reserves of soyabean oil and rapeseed oil. The next harvest of oilseeds crops is three months away.
India, too, has turned a cautious buyer. According to latest import data, India's vegoil imports during November 2010-May 2011 have declined over 10 per cent to 4.12 mt with palm oils (refined and crude) down by a combined 2.8 mt compared with the same period previous year. The summer months of June and July mean reduction in edible oil consumption.
Biodiesel demand
Biodiesel demand on which palm oil producers place great emphasis can potentially help stave off a big price threat, but this segment is not without competition. EU is the biggest market for biodiesel.
Given this scenario, speculative funds – whatever is left in the derivatives market – are sure to exit palm oil soon. There is widespread expectation that crude palm oil prices will correct by as much as 10 per cent or decline to as low as Ringgit Malaysia 3,000 a tonne and stay around that level in the coming weeks.
Support
So, what can support palm oil prices from collapsing below RM3,000 a tonne? For one, festival season beginning August in India and Ramadan demand. Second, a damage to oilseeds crop in any of the major origins over the next three months. However, even the seasonal demand factor is unlikely to provide any extraordinary support. In sum, the Weather God alone can help palm prices from moving down.
Unfortunately, irrespective of domestic market demand, many Indian importers will continue to import palm oil on credit terms to repay outstanding payments against past imports. This is what leads to excessive imports as witnessed last year. This vicious cycle of importing to repay previous debt is enough to make palm producers laugh all the way to their bank.