T

he Indonesian market recently experienced a 12 percent pullback from its recent peak ( May 20-June 13) on several factors, such as scaled-back quantitative easing (QE), weakness of the rupiah weakness and higher interest rates.

However, during the same period, listed CPO (crude palm oil) producers managed to perform much better having risen 9 percent, translating to a market outperformance of 21 percent.

Why is that?

Our sensitivity analysis shows that CPO companies have the propensity to benefit from the weakness of the rupiah and higher interest rates (exhibit 5). This allows for the popularity CPO companies among investors to increase in this risk-averse market, particularly given the sector's defensive exposure toward the food industry.

Additionally, with the advent of the largest Muslim festivities in August, we expect demand to increase in the coming months on increased oil consumption from Muslim countries such as Indonesia and Malaysia. Moreover, we are seeing rising imports from India with May figures showing strong growth to 756,000 tons, up 10 percent year-on-year (y-y), as local supplies dropped amid expanding demand before festivities and the wedding season in 3Q.

In Malaysia, May's inventory continued to decrease to 1.8 million tons (down 5 percent m-m), the lowest since June 2012, on low production of 1.4 million tons, flat month-on-month (m-m) and y-y. We also expect Malaysia's inventory to remain low in the coming months on increased demand and the continued low production cycle.

Looking ahead, sentiment is positive for CPO companies on increased demand due to Idul Fitri festivities, lower stock levels in the third quarter, 2013 (3Q13) and a more risk-averse market condition. Although we expect 2013 CPO price to reach US$900 per ton, down 9 percent y-y, we are more confident about the long-term prospect of CPO on its defensive nature (i.e. food usage). We expect higher demand from developing countries (i.e. India and Indonesia), the main CPO consumers in the next few years.

As we roll over our valuation into 2014, Astra Agro Lestari (AALI) and Austindo Nusantara Jaya (ANJT), which have outperformed the sector in terms of price performance (exhibit 4), remain our top two sector picks (exhibit 1).

We like AALI for its CPO refinery expansion plan and productivity improvement initiatives while ANJT for its strong cash position and yield enhancement program. We also like BWPT due to its exciting long-term growth outlook. On the flip side, our HOLD ratings on SIMP, LSIP and SGRO reflect expensive valuations.

The writer is senior research manager at Bahana Securities