Recent sessions have seen palm oil prices pull back from their highs, as a confluence of bearish factors finally gets the market's full attention. The negatives that were previously overlooked are now being scrutinized in the declining market. In the near term, the focus is on Malaysia's loose supply situation and China's inability to secure large-scale cargo bookings. Once prices drop to attractive levels, the market will likely pivot to watching India's import demand, potentially boosted by tariff cuts. Meanwhile, dryness in parts of Indonesia remains a factor worth monitoring closely.

Supply Pressures Mount in the Producing Regions

The Malaysian Palm Oil Board's (MPOB) August report, released on September 10, marked a turning point for this cycle. The data showed production at 1.8175 million tonnes, up 1.39% month-on-month, while exports fell 7.50% to 1.2947 million tonnes. More critically, end-of-month inventories surged to 2.8245 million tonnes, a 7.48% month-on-month increase and a 28.25% year-on-year jump. This marked the fifth consecutive month of inventory buildup, hitting a new yearly high and significantly overshooting market expectations of 2.76 to 2.78 million tonnes.

The initial crack in the "tight supply" narrative from the inventory data was widened by September's high-frequency figures. According to the Southern Peninsula Palm Oil Millers' Association (SPPOMA), Malaysian palm oil production surged 21.32% during September 1-20, with yields up 18.58%—a typical peak production season slope, showing even stronger momentum than August. Export data painted the opposite picture: shipping surveyor ITS estimated a 12.8% month-on-month decline in exports for September 1-20, while AmSpec's more pessimistic figures showed a 24.7% drop. Although the two agencies' numbers differ, the directional trend is unmistakably bearish.

With production soaring and exports shrinking, the widening gap has led to widespread expectations that Malaysia's end-September inventories could surpass 3 million tonnes, approaching historical highs. Traders in Kuala Lumpur were blunt in interviews with Reuters: with ample spot supply and sluggish demand, there is little reason for prices not to fall.

It's worth noting that the earlier surge above the 10,000 yuan mark was largely fueled by supply-side narratives—Indonesian forest fires, El Nino-driven droughts, and expectations of production cuts in Kalimantan. However, subsequent verification revealed that the fires did not impact core producing regions, and palm trees escaped large-scale damage, meaning the impact on current production was limited—essentially a transient bullish spike. With the narrative debunked and seasonal production gains materializing, the bullish supply-side logic was dismantled in September.

Energy Sector Support Weakens

Palm oil is no longer just a food commodity. Indonesia's biodiesel mandate has escalated from B2.5 in 2008 to a planned B50 by 2026, tying palm oil prices increasingly tightly to crude oil. Estimates suggest that since 2020, the correlation coefficient between BMD palm oil and Brent crude has been as high as 0.86. This means that when oil prices turn, palm oil feels the impact first.

On September 21, international oil prices experienced a significant drop: WTI October futures fell 4.51% to $95.78 per barrel, while Brent November futures declined 3.4% to $100.34 per barrel, marking a fourth consecutive day of losses to their lowest levels since September 9. The trigger was a rapid unwinding of geopolitical risk premiums as signs of a thaw in US-Iran diplomacy emerged, prompting market participants to retreat from "supply disruption" expectations. As oil prices fell, the blending economics for palm oil as a biodiesel feedstock deteriorated, significantly weakening this demand support pillar.

Weak Domestic Fundamentals in China

China's commercial palm oil inventories have remained persistently at historically high levels for this time of year. Institutional research data shows that as of September 4, commercial palm oil inventories in key regions nationwide stood at 902,100 tonnes, up 45.66% year-on-year. By the week of September 18, this had risen to 909,300 tonnes, with the year-on-year increase expanding to 68.7%. With concentrated September arrivals and ongoing cargo bookings, port arrival pressure is only set to increase.

Meanwhile, the deep inversion of the soybean-palm oil price spread means palm oil has lost its comparative price advantage over soybean oil, dampening willingness for large-scale price-locking purchases. Panicked selling by traders, downstream wait-and-see behavior, and thin trading volumes have combined to pressure the futures market from the spot side.

Adding another layer is the capital flow. The rally past the 10,000 yuan threshold accumulated substantial profit-taking positions, with bullish factors like Indonesia's B50 and El Nino having been fully priced in. When signals such as falling oil prices and weakening export data appeared simultaneously, bullish positions exited en masse. The September 21 session exhibited a "rising open interest with falling prices" pattern—a sign of aggressive short positioning rather than simple long liquidation, indicating fresh capital driving prices lower.

Competing vegetable oils weakened in tandem, with CBOT soybean oil and DCE soybean oil both declining, creating overall pressure on the vegetable oil complex and exacerbating correlated selling. Additionally, a stronger ringgit raised the implicit cost for dollar-based buyers purchasing Malaysian palm oil, adding further fuel to the export slump.

Finding Value in the Downtrend Ahead

How should this decline be characterized? The futures term structure provides an answer: the September-January and January-May calendar spreads are inverted by nearly 500 yuan per tonne, with deferred months persistently commanding premiums over nearby contracts. In other words, the market is willing to pay higher prices for palm oil beyond the first quarter of next year—near-term looseness is accepted, but the long-term production cut story remains intact. This appears to be a valuation correction between "strong expectations" and "weak reality" rather than the end of the trend.

The medium-term supporting logic has not been disproven; only the timeline for realization has been pushed back. On the weather front, the US Climate Prediction Center (CPC) projects a greater than 90% probability of a very strong El Nino during the 2026-27 Northern Hemisphere autumn-winter season. The NINO3.4 weekly index has already breached +2.5 degrees Celsius, approaching the peak levels seen in 2015/16. In Indonesia's Kalimantan, persistent drought and forest fires have led to market expectations of a 12%-15% production decline in the fourth quarter—but palm tree production responses typically lag by 6-12 months, meaning this supply reduction won't fully materialize in inventory data until the first quarter of 2027.

On the demand side, Indonesia's B50 mandate takes effect on July 1, 2026, with approximately 94% of the nation's 6,412 gas stations already converted as of mid-September. The US Department of Agriculture's September outlook projects Indonesian biodiesel consumption to increase by 2.337 million tonnes year-on-year in 2026. India also has rumors of potential reductions in vegetable oil import tariffs, which, if realized, would boost import demand from the world's largest buyer.

However, it's important to note that some of these supports remain in the "expectation" stage—India's tariff adjustment has no official documentation, and the actual implementation strength of B50 depends on Indonesia's fiscal subsidy pressure after oil prices retreat. The "buy expectations, sell reality" scenario could easily replay.

Looking ahead, several variables merit close monitoring. First, whether MPOB's official end-September inventory approaches the anticipated 3 million tonnes, which will determine how deep the final leg down might be. Second, the situation at the Strait of Hormuz and US-Iran diplomatic progress—whether oil prices can sustain above $100 directly impacts the biodiesel logic. Third, when the inflection point for domestic commercial inventories will appear, and the pace of arrivals after October. Fourth, the realization of India's tariff adjustments and Indonesia's B50 implementation. Fifth, the actual impact of El Nino on Kalimantan, which can only be verified in the first quarter of 2027.

In the near term, with producer inventory accumulation, weak exports, and high domestic inventories forming three mountains of pressure, palm oil is likely to remain in a weak, range-bound pattern, with downside space dependent on the quality of end-month inventory data. However, extending the time horizon into next year, the two main themes of weather-related production cuts and biodiesel demand growth remain intact, and the logic supporting higher price levels has not been broken.

For industry participants, the more practical task at hand may not be guessing tops or bottoms, but rather utilizing the near-weak/far-strong spread structure to arrange purchasing and hedging schedules. After all, in the vegetable oils market, the best opportunities often hide within the most uncomfortable corrections.