Friday December 17, 12:00 PM KUALA LUMPUR (Dow Jones)--Foreign exchangerates and crude oil prices, issues not normally associated with palm oil,may emerge as major influences on a market that otherwise appears set fora bearish year in 2005.

While 2004 has been characterized by tight global edible oil and oilseedsupply, 2005 will likely be the antithesis.

Oilseed crops are expected to surge to record highs, far outpacing demand.

"Based on these fundamentals, it would be an open and shut case thatvegetable oil prices would have to decline," said market analyst Dorab E.Mistry, director of London-based Godrej International Ltd.

"However, there are three price-making factors that will lend support tovegetable oil prices," he said, naming potential weather problems, growinginterest in bio-diesel and a weakening U.S. dollar.

Those external factors should help cushion the expected fall in palm oilprices in 2005, but may not be enough to trigger a rally as supplypressures are likely to be too strong, industry participants said.

Projections from analysts and traders are for crude palm oil prices inMalaysia, the world's top producer and exporter of the commodity, toroughly move between MYR1,200 and MYR1,550 a metric ton in 2005, well off2004's trading range.

The benchmark third-month CPO futures contract on the Bursa MalaysiaDerivatives ended at MYR1,401/ton Thursday, down 21% from MYR1,774 Dec.31, 2003.

The contract reached a 2004 high of MYR2,003 March 4 before falling to ayear low of MYR1,365 Oct. 18.

Bad Year Ahead Despite Modest Growth In CPO Output

Palm oil output itself is expected to grow only moderately next year.

CPO output in Malaysia is forecast to rise a mere 300,000 tons, or 2%, toaround 13.85 million tons in 2005, with cyclical factors limiting theupside, according to the Malaysian Palm Oil Association, or MPOA.

In Indonesia, the world's second largest producer, CPO production in 2005is forecast at 11.6 million to 11.8 million tons, up from 10.8 milliontons in 2004, according to the Indonesian Palm Oil Producers' Association.

The expected growth in palm oil production doesn't appear alarming on itsown. But when combined with increases in other edible oils, 2005 lookspoised to be a year of abundant, if not excessive, supply.

Global edible oil output is expected to rise about 7.0 million tons in2005, while demand is likely to maintain its 4.0 million ton-a-year growthrate.

"So, the excess supply will be about 3.0 (million) to 3.5 million tons,"said M.R. Chandran, chief executive of MPOA.

Ever the optimists, producers aren't too worried about excess supply.

"We feel it will not be too much of a burden. And, of course, if there areclimatic changes such as (an) El Nino, the whole scenario will change,"said Chandran, whose association represents most of Malaysia's producers.

According to the Malaysian Meteorological Service, there is a moderatepossibility of a weak El Nino occurring in the first quarter of 2005.

Although most producers remain outwardly bullish on palm oil prices in2005, privately, some are already bracing for a bad year.

"I fear 2005 may be quite a bearish year. Too many things are pointing inthat direction. We can hope for (an) El Nino, but that isn't certain tooccur," said a top official at a major Malaysian plantations company.

Promising Future For Bio-diesel Amid High Oil Prices

Weather conditions aside, one positive factor that does hold some promiseis the potential for a rise in bio-diesel demand.

A surge in crude oil prices to record highs in late-2004 promptedgovernments worldwide to step up their search for alternative energysources. Bio-diesel, made from vegetable oils, is fast gaining recognitionas a suitable and environmentally-friendly fuel source.

Yet, for all the potential the bio-diesel sector holds, the likelihood ofa boom occurring worldwide in 2005 remains in doubt because at today'sprices, edible oils are still too expensive to be used as fuel.

And for palm oil, any early benefits are more likely to be indirect.

With its usage still negligible in the bio fuels sector, palm oil can onlyhope to ride on any rally in other edible oil prices caused by increaseddemand from the fuel sector.

Bio-diesel production in the U.S. and Europe, the world's two majorproducers, could reach about 3.5 million tons in 2005 if variousgovernment incentives work.

With palm oil still too expensive to be used as fuel, the state-runMalaysian Palm Oil Board has come up with a plan that its director-generalYusof Basiron said would "make the use of palm oil as bio-fuel acommercial reality".

The plan hinges on producers selling some palm oil to the bio-dieselsector at a discounted price and in return, receiving tax credits from thegovernment.

Still, the program isn't likely to get off the ground anytime soon as itstill needs government approval and relevant laws need to be put in place.

MYR Revaluation Could Hurt CPO Prices

Currency movements could also be a key swing factor for palm oil in 2005.

The U.S. dollar fell to an all-time low against the euro and multiyearlows against other major currencies in late 2004.

"A weak dollar is friendly to commodity prices and will help to make palmoil more competitive against oils priced in euros or in domesticcurrencies," said Godrej's Mistry.

For Malaysian CPO producers, however, any benefits from a weak dollarcould be lost if the ringgit, pegged at 3.8 to the dollar since 1998, isrevalued.

Economists have said pressure is mounting for Malaysia to strengthen theringgit, with some suggesting a possible revaluation to 3.5, or even 3.3.

With exports priced in dollars, a stronger ringgit would crimp refiners'domestic revenues, eroding their profit margins.

On the other hand, Malaysia may not be able to adjust the dollar price ofits oil to reflect the change, as competition from rival exporterIndonesia and from other oils would limit pricing flexibility.

"So, it is the price of the raw material - CPO - that will have to comedown in order for margins to be maintained," said P.N. Agarwal, groupmanaging director of specialty fats maker Premium Nutrients Bhd.