Global demand for palm oil could see a spike in Malaysian prices

A global leader in palm oil, Malaysia produces a wide variety of products in addition to basic vegetable oil, ranging from pharmaceuticals to biofuels, biomass, cosmetics and soaps. Research and development (R&D) in the sector continues to turn out uses for the products of this versatile tree. However, in recent times a glut has led to increasing stockpiles and falling prices. Yet now, the El Niño weather event is leading to a diminution of supply, while global demand for palm oil continues to expand along with the populations of major markets such as India and China.

Weather Issues 

The exceptionally hot and arid conditions brought about by the 2015-16 El Niño impacted oil palm growing areas in Malaysia and in neighbouring Indonesia. Dorab Mistry, a palm oil expert, told the Borneo Post that El Niño will lower production and boost prices. The impact of the weather system is continuing to be felt in 2016. Crude palm oil (CPO) production in February 2016 was only 1.04m tonnes, the lowest yield in nearly a decade. Another factor affecting the trees was “haze” – smoke from burning forests set ablaze by “slash and burn” land clearance – mainly in the Indonesian states of Sumatra and Kalimantan. Haze constitutes a major pollution hazard to many neighbouring areas during the last few months of a given year, with late 2015 worse than in recent periods. The progress of the oil palm sector in Indonesia is also of serious concern to Malaysia, as Malaysian plantation companies account for much of the Indonesian acreage. These companies include sector giants such as IOI Group, Samling (Glenealy), Sime Derby, Genting Plantations, and Kuala Lumpur Kepong. Indeed, as suitable land for planting in Malaysia has been exhausted in recent years, neighbouring Indonesian islands Sumatra and Kalimantan have taken over as the main palm-oil-producing regions of the world. Currently an estimated 85% of the world’s palm oil output comes from Malaysia and Indonesia. A further company of note in the sector is Felda Global Ventures, which started out as a government scheme to help landless Malaysian farmers and is now the world’s largest producer of crude palm oil (CPO), with operations in more than 10 countries. Under the Ministry of Plantation Industries and Commodities is the Malaysian Palm Oil Council, tasked with promoting the expansion and development of the sector, both domestically and internationally.

Key Regions

According to data from another such body, the Malaysian Palm Oil Board (MPOB) – a government-supported institution that oversees much of the R&D and industry development work in the national sector. Within Malaysia, the main palm oil producing regions are Sabah and Sarawak, with the former the largest in terms of planted area, at 1.5m ha in 2015. Between them, the two Eastern Malaysian states produced 572,148 tonnes of CPO in January 2016, down from 609,532 tonnes in the same month of 2015 – illustrating the impact of El Niño. Major growing regions on the peninsula include Johor, which produced 163,841 tonnes in January 2016, Pahang with 143,877 tonnes and Perak with 123,327 tonnes.

All of these figures were down on the same month of 2015, with total output for Malaysia falling from 1.16m tonnes of CPO to 1.13m tonnes between the two periods. For 2015, the MPOB recorded the total planted area for oil palm as rising 4.6% year-on-year, to 5.6m ha, with Sarawak leading the way. Land used for oil palm there increased some 13.9%. Sarawak also saw an increase in total annual CPO production as newly planted trees came on stream – ordinarily, a tree starts commercial production around three years after planting, with peak production in years seven to 18, and with the average lifespan of a tree being around 25 years. CPO production for the whole of 2015 was up some 7.6% in the state.

The combination of bad weather conditions and forest fires are likely to see 2016 output continue to decline, with market predictions of a 1m-1.5m-tonne drop in production common in early 2016. Output in Indonesia is also likely to fall, with this strengthening CPO prices. Between June 2015 and March 2016, prices rose some 24%, to around $688 a tonne. Malaysia also has a palm oil futures market at the stock exchange in Kuala Lumpur, Bursa Malaysia, as well as physical and paper markets for the commodity. The futures market proved particularly robust during late 2015, as expectations of future price rises increased.

Meanwhile, labour costs are rising, and in its 2016 budget the government increased the level of the minimum wage, from RM900 ($223) to RM1000 ($248) per worker per month for Peninsular Malaysia, and from RM800 ($198) to RM920 ($228) in East Malaysia. This impacts the palm oil industry particularly, as it is a labour-intensive business, with harvesting largely manual. At the same time, around 78% of plantation workers are foreign, often from Indonesia or the Philippines. The government’s recent introduced an annual levy of RM640 ($158) per foreign plantation worker will also increase labour costs.

Heading Overseas

With Malaysia consuming only around 15% of its total CPO output domestically, the export market is key, with Port Klang and Pasir Gudang on the peninsula and Lahud Datu and Sandakan in Borneo the most important ports for this trade. India, the EU and China are the three largest export markets, although in recent years Pakistan has also increased its share, importing around 728,000 tonnes in 2015. Conditions in these destinations are therefore watched keenly by Malaysian palm oil exporters, with India importing some 65% of its palm oil requirements – an expected 9.7m tonnes in 2016 – while the EU imports around 7m tonnes a year.

However, the EU market is also a source of concern to growers, as tougher environmental standards apply there, requiring certified, sustainably-sourced palm oil imports. The Round Table on Sustainable Palm Oil (RSPO) was established in 2003 to institute a universal standard for palm oil, with Malaysia now producing around 42% of the world’s supply of RSPO certified palm oil. The RSPO suspended IOI Group, Malaysia second-largest palm oil producer, in April 2016 over accusations that the firm was guilty of poor environmental practices in Indonesia. This caused three major multinational companies Unilever, Kellogg’s and Mars to cease business with the company. The country also operates its own Malaysia Sustainable Palm Oil standard scheme. Nonetheless, environmental concerns over deforestation in the industry continue to be expressed, with France, which imported around 126,000 tonnes of palm oil in 2014, now moving towards a 2017 date for imposing an import tax of €300 per tonne on this commodity. The tax will then rise to €900 per tonne by 2020. Russia is also moving to introduce an excise tax on the 748,000 tonnes of palm oil it annually imports, which could amount to around $200 a tonne from July 1, 2016 onwards. These moves, which may also be connected to these countries’ rival oil producing crops, such as rape seed, sunflower and soya, will impact Malaysian exports. China continues to be a major export destination, although a shift towards soya oil is under way that will likely decrease palm oil’s export share in the years to come. Soyabean stocks have also been at high levels in recent times, depressing the price of this alternative source of vegetable oil.

Food & Fuel

Another major factor in the palm oil industry is biofuels, with CPO being used to produce a range of products, and usage is increasingly encouraged by the Malaysian and other governments. Indeed, Putrajaya is currently promoting a target of 10% biodiesel in every litre of fuel used by the subsidised transport sector, up from the current 7%. Indonesia, meanwhile, has raised its blend minimum from 15% to 20%. These moves affect overall demand for CPO and its refined versions, while also helping promote palm oil as a green energy, cutting the use of non-renewable hydrocarbons. Oil palm also produces opportunities for local electricity generation via biomass projects. The government has set a renewable energy generation target of 2080 MW of power by 2020, with biomass expected to take up 38% of this total. Waste from oil palm accounts for some 46.5% of the country’s total biomass availability.

Going Forward

2016 is likely to see a strengthening of CPO prices, as supply shortens and costs of production increase, although some of this will likely be offset by ringgit depreciation and shift in demand to other vegetable oil varieties in major markets. Efforts to increase productivity are likely to receive greater focus, although there are certain physical and financial constraints on further mechanisation. Often, oil palms are grown in parts of the country that are not easily accessible by machinery, with harvesting done by skilled workers using long poles and sickles. At the mill and other areas downstream, there may be potential for greater efficiencies, with many also waiting to see how the government’s ambitious biomass renewable energy targets impact the sector.

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The Report: Malaysia 2016

Agriculture & Plantations chapter from The Report: Malaysia 2016

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