According
to an article published by The Star newspaper on 3rd October 2012, prices for
crude palm oil have plunged as much as 8.4% of its previous price.
Malaysia
is the second largest producer of palm oil, only surpassed by it's neighbour
Indonesia. Palm oil plantations rank amongst the largest industries in Malaysia
and large conglomerates cultivate palm oil on the vast amount of fertile land
available. Hence, it comes as no surprise that crude palm oil (CPO) is one of
the most actively traded futures contract on Bursa Malaysia. CPO prices have
long been trending upwards in recent years as sustained increase in demand
bring CPO prices to new highs. However only several weeks ago, CPO prices have
suffered heavily, dropping below RM2,300 per tonne on 2nd October 2012. As a
tradeable commodity, various microeconomical concepts are prevalent in
influencing the price of CPO.
As
in any other functional market, supply and demand is the basic determinant of a
product's price by matching the supply and demand for the product so that the
supply and demand is in equilibrium of price and quantity. This is especially
true as several years ago, demand for CPO rised substantially due to usage in
biodiesel fuel and increased consumer consumption in China and India. CPO
prices are directly influenced by this
boost in demand and shot up. The jump in price and quantity demanded of CPO greatly
increased the revenues of plantation firms.
This scenario provides a catalyst for many
producers of CPO to increase production by opening up new land. Growing more
palm oil trees is needed to increase the supply to meet the growth in demand. However
land and palm oil tree cultivation ( a typical oil palm tree can only start
producing after 3-4 years ) can only be varied in the long run, thus CPO supply
is unable to be increased substantially overnight to meet the rising demand. CPO
is then seen to continually increase in price.
In
2012, production surged heavily as the matured palm oil tree cultivated several
years ago began to yield CPO. Supply of CPO is now able to meet the demand of
CPO around the world. However, a slowdown in the global economy due to the Euro
crisis, declining US employment rate as well as less than optimal growth in
China ochestrates a slowdown in the demand for CPO. This applies a heavy
pressure on the price of CPO as the stockpile grows and production climbs. Historically,
September and October are high output periods of CPO. Coupled with weak
exports, CPO stockpiles are expected to continue to expand and might reach a
record three million tonnes by January 2013. High inventory compounded with
strong production continues to drive the price of CPO lower as demand is unable
to keep up.
While
bio-diesel processed from CPO is seen as a greener alternative and substitute
good to petrol and diesel, it is not economically attractive. This is partly
due to the weak crude oil prices and high CPO prices comparatively. Demand for
bio-fuel will grow when crude oils prices climbs as it will be economically
beneficial to make the switch between the two goods.
Cooking
oil is a normal good where the demand increases when income increases and
demand falls when demand decreases. Demand for cooking oil is especially strong
in economies developing at a quick pace as income of the population increases
exponantially. CPO happens to be one the main cooking oils used. However, a
substitute good for CPO is soybean oil. Soybean oil has seen a strong rise in
price and now trades at a premium of US$310 per metric tonne to CPO, compared
to a historic mean of US$160 per metric tonne. This hefty premium is a result
of China continuing to import more soybean in anticipation of a further surge
in price as supply for soybean worsens. India's demand for soybean oil is also
seen to be likely to decrease as soybean is seen as expensive compared to palm
oil. As soybean stock levels fall from strong buying by China, CPO prices will most likely see a recovery as the
substitution demand for CPO kicks in and narrow the price gap between CPO and
soybean oil. CPO prices may see an increase due to this.
The
palm oil industry is a major industry in Malaysia, hence a decline in CPO
prices can have major influence onto the well-being of the firms involved. Strong microeconomical factors have caused
CPO prices to weaken heavily, including high production, heavy stock levels,
strong demand for substitute goods. Further
statistics by Malaysian Palm Oil Board (MPOB) will set the tone for further
price changes. As a strong increase in supply meets a weakening demand, CPO
prices understandably dropped heavily. Furthermore, in the face of near record
high inventory levels, CPO prices could face worse days ahead. With crude oil
prices low, bio-diesel demand will stay weak and the only respite for CPO is the
high price of soybean oil, hoping that demand will turn towards the more
cheaply priced CPO. Government intervention in the form of lower tax structures
for CPO can also be expected to reduce the large stockpile of CPO currently
available. This will be an enormous help for major producers in their effort of
reducing stock levels. The drop in CPO prices have factored in most of the
negative situations and thus CPO prices should find support unless the industry
outlook continue to weaken. Once demand for CPO picks up, we should see CPO
prices halting the decline and rebound towards a higher price range.
Author : NG JUN YE
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