SINGAPORE (Dec 20): DBS Vickers Securities has upgraded its view on the plantation sector to “neutral” on improving fundamentals, as well as expectations of yield recovery and steady prices to boost the earnings of plantation companies in FY17F.

In the research house’s 2017 Outlook report, DBS analyst Ben Santoso says the plantations sector will be shaped by three key issues over the next 12 months: continued tight inventory, higher biodiesel blending, and a strong US dollar.

According to him, the 8% y-o-y recovery in global palm oil supply next year to 64.3 million metric tonnes (MT), although significant, is “no relief”. This is because he expects biodiesel blending in Indonesia to pick up, together with export levy collection.

Demand is forecast to expand towards 64.5 million MT.

“We expect palm oil prices to average US$618/MT next year – 2% y-o-y lower – on record US soybean harvests. Yet, in local currencies, we expect prices to increase,” the analyst elaborates.

Together with yield recovery, he is convinced quarterly earnings for plantation stocks have bottomed in 2Q16.

Based on empirical studies which suggest that crude palm oil (CPO) yields have been a key driver for plantation share prices outside Bursa, Santoso recommends focusing on yields.

He notes that First Resources’ yields have underperformed its peers since 2013, and so has its share price. The stock has been rated “hold” at a target price of $1.90.

The analyst expects Wilmar, which has been rated “hold” at a target price of $3.39, to continue seeing strong near-term oilseeds crush margin on the back of record US harvests.

“Spillover from delayed sugarcane harvesting will also contribute to [Wilmar’s] 4Q16 earnings, while decent refining margin in 3Q16 is expected to continue. We understand the group will likely book tax credit in 4Q16 from Indonesian tax incentive on property, plant and equipment revaluation,” he adds.

DBS’ top “buy” picks in Singapore are Bumitama Agri and Indofood Agri with target prices of 95 cents and 58 cents respectively. The research house believes both stocks have the highest upsides based on the current target prices.

As at 10.52am, shares of First Resources, Wilmar, Bumitama Agri and Indofood Agri are trading at $1.97, $3.74, 80 cents and 57 cents respectively.