With palm oil futures setting fresh life-of-contract lows almost daily, the relative decline in palm oil has driven the spread between soybean oil and palm oil values to its highest level since early November and at a significant low from late August. The spread has had a large impact on trade flows and has drawn interest and questions from cash traders and speculators. The biggest question is, where does the spread move from here.
In the short term, palm oil prices have tested the July 2019 low, and that may reverse the short-term trend. Palm oil futures have traded below the psychologically critical 2,000-ringgit level in only six months in the last 10 years and always settled above the 2,100-ringgit by the end of the month after the month they broke the 2,000-ringgit barrier. The critical development that will determine the short term direction will be the monthly supply and demand data from the Malaysian Palm Oil Board (MPOB), scheduled for release on May 12.
There are two ways the MPOB report could be bullish. The first is if the MPOB’s estimate of palm oil production is lower than expected. Analysts’ estimates suggest palm oil output in April rose about 15 percent from March. The increase has been the main driver of the latest leg lower in palm oil prices. Traders were surprised the growth in output was so large given that the Malaysian government shut down plantations in the most significant producing region in the country for the first half of the month.
The report may also mark the bottom of the recent move if traders decide that with futures below 2,000 ringgit, the market already reflects all the bearish news. Given the uncertainty surrounding the world economy and the demand for vegetable oils, this seems unlikely. It is easy to extrapolate the seasonal increase in output driving stocks to record or close to record levels by the end of the marketing year, so the probability the MPOB report will feature larger-than-expected production and mark the bottom in prices is very low. However, it may occur.
A rally in palm oil prices will likely narrow the spread in the short term, if for no other reason than soybean oil values have not fallen as far as palm oil in recent weeks and are not likely to bounce as much as palm oil if the MPOB report is bullish.
In addition, the relative performance of soybean oil may be about to end. The technical outlook for soybean oil is bearish, and, in recent weeks, anecdotal reports have suggested some crushers are slowing crushing volumes due to falling demand and limited soybean oil storage. These both indicate the spread could narrow because soybean oil prices fall, or do not rally as much as palm oil.
In the short term, a narrowing of the spread seems more likely than a continuation of the recent trend. However, the spread could continue to widen if the MPOB report is bearish, and, or the slowing domestic demand for U.S. soybean oil suggested by anecdotal reports proves to be transitory.
Over the balance of the marketing year, The Jacobsen believes that the growth in palm oil stocks while U.S. soybean oil stocks decline will drive the spread wider. The ultimate high in the spread will depend on the strength of U.S. soybean oil demand and palm oil production, but The Jacobsen’s forecast suggests the spread reaches six cents per pound by the end of 2020.