While the strength of the commodities rally early this year has surprised many, analysts are expecting a relatively unexciting year for the sector in 2010.

The general sentiment is that commodities will continue to inch higher on continued interest but dramatic dives and rises like what was seen in late 2008 and early this year are unlikely to make another appearance in 2010.

“There will be positive movements in the first half of next year but the second half will likely remain quite flat,” ECM Libra Capital head of research Ching Weng Jin told The Edge Financial Daily.

Ching expects commodities to trade within a tighter range of about 20% next year compared with 30% this year.

Commodities started 2009 on a rough patch after going through a wild ride in 2008. Following the more than 50% plunge in most commodity prices towards the end of 2008, most analysts had believed that 2009 would indeed be a tough year for the sector. Additionally, the global economic downturn underlined the expected weaker demand for commodities.

However, analysts were pleasantly surprised by the strong rally in commodities towards the end of the first quarter of 2009 but some remain sceptical at the sustainability of the rally.

Ching noted that China’s stocking at the beginning of the year while demand elsewhere was weak brought commodity prices up from their lows.

“But their buying dwindled and then the US dollar fell, causing investors to put their money into commodities. Also, there was a general expectation that recovery was around the corner and so people started buying up,” he said.

During the year, crude oil came off its lows of over US$40 (RM137.20) a barrel to reach a comfortable level of above US$70 a barrel while crude palm oil (CPO) beat expectations nearing RM2,900 a tonne in May.

Other commodities such as metals and coal also saw a run-up in the first half of the year as China stockpiled its raw materials to fuel growth.

Gold surged to a historic high of US$1,226.10 per troy ounce after investors fled to the precious metal which hedges against inflation and weakening dollar.

However, Ching cautioned that the commodities rally was mainly fuelled by trade demand rather than actual industrial requirements.

“The rally is out of sync with the demand-supply fundamentals. There is some demand but not strong enough to push prices up so high. Interest rates all over were low and the dollar was weak, so markets had to find a place to put their money in, which is commodity.

“Next year will depend on the various interest rate policies and the rollback of subsidies. Depending on the timing, we may see some weakening in prices. The economic recovery will add to recovery of demand but this demand will merely lend substance to pricing and not so much of pushing commodity prices up further,” he said.

Ching said crude oil and CPO may continue to hog the spotlight next year as investors continued to pour cash into commodities. “Not so much metals as construction and industrial demand are weak and recovery is still slow.”

Analysts say 2010 will be another volatile year for CPO.

“Key factor to watch will be the US dollar and weather. If there is going to be a rally, it will be mainly driven by a strong El Nino, which has yet to materialise so far,” Ong Chee Ting, an analyst at Maybank Investment Bank said.

While most are anticipating a CPO rally on significantly weaker US dollar, Ong said the US dollar was on a long-term downtrend and the currency was unlikely to collapse in the near term. “I am maintaining my RM2,400 per tonne average CPO forecast for 2010.”

Ong said CPO performed very well in the early part of this year, lending support to plantation stocks.

The plantation sector staged one of the strongest rallies and was one of the best-performing sectors of 2009.

A research report showed that plantation stocks are up 66% year-to-date and outperformed the KLCI by 14%. The perpetually laggard mid-sized planters also rose 40% over the same period.

“But barring unexpected weather anomalies in major crop producing countries in 2010, we see limited upside to plantation stocks and hence our neutral call on the sector,” Ong said.

Other research houses including AmResearch, CIMB Research and ECM Libra also have a neutral call on the plantation sector while OSK Research maintained its underweight recommendation.

Despite a less than exciting outlook on the sector and an already strong performance this year, there could still be some stocks to buy into for the coming year.

An analyst from a local research house, which has an overweight call on plantations, said the sector now traded at a decent 14 times 2010F price-earnings ratio (PER) and two times price-to-book ratio (P/B).

Among top picks for the sector are the world’s largest listed palm oil producer Sime Darby Bhd, PPB Group Bhd and Genting Plantations Bhd.

According to Bloomberg, there are eight buy calls, 10 holds and 11 sells on Sime Darby with target prices ranging from RM7.43 to RM11.

For Genting Plantations, there are four buy calls, 12 holds and six sells with target prices ranging from RM4.81 to RM9.50. Meanwhile, there is one buy call on PPB and three holds with target prices ranging from RM14.68 to RM23.60.

“Sime Darby is an excellent play on rising CPO prices as well as a recovery in global economies. We expect earnings to improve significantly going forward, not only driven by plantations, but also the other cyclical businesses in its portfolio.

“Genting Plantations will benefit from CPO prices. And valuations are attractive at 12 times 2010 PER and 1.7 times P/B. Balance sheet is also among the strongest within the sector,” the analyst said.

Other favourites include United Plantations Bhd, Hap Seng Plantations Holdings Bhd and Kulim Malaysia Bhd due to high leverage on CPO prices and attractive valuations.