As  oil  palm  trees  thrive  on  copious  rain  and  sunshine,  the  current drought  and  haze  are  negative  for  production.  That  said,  since  this weather  condition  has  prevailed  for  only  a  month,  it  is  too  early  to gauge  if  this would  hurt  output.  However,  we  can  be  certain  that  this may  make  an  impact  should  conditions  worsen.  We  maintain  our NEUTRAL on the sector,  with our  CPO price assumptions  at  MYR2,400 for CY13 and MYR2,600 for CY14. 

- Evidence of lack of rainfall.  The  recent  haze  indicates  that there has been  a  lack  of  rainfall  in  Sumatra,  thus  resulting  in  an  increase  in  the number of  hotspots  in  the region. We also note the  rising  incidence of bush  fires  in  certain  parts  of  West  Malaysia  and  the  emergence  of unopened spears on oil palm trees, all of which suggest a lack of rainfall. Both West Malaysia and Sumatra are key palm oil producing regions. 

- One-month  drought  unlikely  to  affect  production.  We  understand that  the  dryness  in  Sumatra  only  started  in  early  June,  while  parts  of West Malaysia, which share  the same agro-climatic zone with  Sumatra, still  enjoyed  sufficient rainfall of 180mm in May.  This means the current dry spell is only  a month old and may be insufficient to affect production. Typically, there has to be  two straight months of  inadequate  rainfall  for production to be negatively affected. 

- The  haze  blocks  out  much-needed  sunlight.  The  haze  blocks  out sunlight,  thus  slowing  down  the  rate  of photosynthesis.  Given  that  oil palm trees have energy reserves,  the  impact on production  may not  be immediate. However, should the dry  weather persist and start to hamper the  rate  of  photosynthesis,  this  will  give  rise  to  lower  production. Fortunately, NASA satellites  have  shown  a tremendous reduction in  the number  of  hotspots  in  Sumatra,  possibly  due  to  the  Indonesian Government’s prompt action in putting out the fires. 

- No  impact  on  CPO  market.  Crude  palm  oil  (CPO)  prices  have  been weakening in the past week, which may be an indication that the  market is showing little concern over a potential supply crunch. While we believepalm  oil  supply  will  remain  ample  this  year,  we  are  keeping  a  close watch on the rainfall. Maintain NEUTRAL on the sector.

Source: RHB