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Situated in the centre of the 2 largest Crude Palm Oil (CPO) producing countries in the world – Indonesia and Malaysia, Singapore the Switzerland of the East, would inevitably be the HQ for some of the world’s largest CPO operations such as Golden Agri-Resources (SGX: E5H), Indofood Agri Resources (SGX: 5JS) and Wilmar International (SGX: F34).

What is Crude Palm Oil (CPO)?

Known as liquid gold, CPO is derived from oil palms. Oil palms are perennial crop cultivated mainly for its fruits known as Fresh Fruit Bunches (FFB), from which CPO and Palm Kernel (PK) can be extracted.

Due to ecological constraints (Optimal cultivation regions within 10 degrees latitude north/south of equator), Indonesia and Malaysia are the largest producers of CPO accounting for around 85% of global CPO production in 2011.

Oil palms trees typically start to produce FFB 3 years after planting and have an economic life-cycle of approximately 25 years. Being perennial crops, oil palm trees have rather resilient qualities and are generally less affected by adverse weather conditions.

 

Why is Palm Oil preferred as a vegetable oil?

Over the past 10 years, CPO dominated the global edible oils trade, accounting for 57% of the world’s export of all 17 major oils and fats in 2011. CPO’s success was linked to its versatility, with the derivatives of CPO, PK and CPKO (Crude Palm Kernel Oil) used globally for many food and non-food products. Palm oil can be found in almost everything from cereals and chocolates to cosmetics, detergents and even bio-diesel!

Oil palm also has a higher yield as compared to soybeans, rapeseed and sunflower seed, translating to more vegetable oil per hectare relative to other vegetable oils.

Another advantage would be palm oil’s comparatively attractive pricing compared to the other vegetable oils.

 

How could an investment in commodities your portfolio?

In an earlier article, we discussed about the advantages of a commodity element on your portfolio. Now lets explore the tangible, practical results of such an approach.

Commodity indices replicate the returns available to holding long positions in commodities. Global indices differ in terms of composition, weighting and purpose (In terms of the underlying assets held), but there are also some that are recognized as global benchmarks.

The Center for International Securities and Derivatives Market (CISDM) measured the returns of the some of these indices, which included the Goldman Sachs Commodity Index (GSCI), S&P Commodity Index (S&PCI) and Dow Jones-AIG Commodity Index (DJ-AIGCI) over a 14 year period from 1990-2004. GSCI and S&P subsequently became the S&P GSCI (SPGSCI:IND) after ownership was transferred to S&P in 2007 whilst DJ-AIGCI developed into the DJ-UBSCI).

 

Value In Action

Bottom line was that the 3  indices above showed correlations of close to zero with broad based equity and bond indices, indicating potential as risk diversifiers.

When used in a portfolio, it was also indicated that when a suitable degree of commodity element was added to a portfolio, the overall Sharpe ratio increased and volatility in terms of standard deviation decreased! This might get some academics and quants on board!

Check out Part 2 of our mini series where we would further explore the operations and entities involved in the CPO industry!

 

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We will only provide you with information relevant to value investing. You can unsubscribe at any time. Your contact details will be safeguarded.The information provided is for general information purposes only and is not intended to be any investment or financial advice.

All views and opinions articulated in the article were expressed in Mun Hong’s personal capacity and do not in any way represent those of his employer and other related entities. Mun Hong is a shareholder of Wilmar International Ltd.

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