Very interesting, I had no idea there was even a market in weather futures: from the article cited:
Weather derivatives take a variety of forms. In pure options, a buyer pays a premium to a risk taker like Mirant and
gets a payoff if temperatures, precipitation or wind vary from the norm. The risk takers, in turn, try to balance their
portfolios, much as insurance companies do. Utilities, for example, typically want to hedge against mild weather, while
agriculture and construction companies hedge against severe weather.
Trading of weather futures contracts at the Chicago Mercantile Exchange has soared since May, when the exchange
appointed Wolverine Trading as its official market maker. Some 1,400 contracts have traded since then, compared
with just 500 between the contracts' launch in late 1999 and April 2002. The CME trades swaps, in which no premium
is paid by either party. Instead, at the end of the month, one party pays the other in proportion to how much the
weather varied from what was expected.
Swaps have always been the most popular form of hedging in the over-the- counter market. A recent industry survey
by PricewaterhouseCoopers and the Weather Risk Management Association found an explosion of over-the-counter
transactions in Europe and Asia in the 12 months through April and a moderate increase in over-the-counter trading in
the U.S. Anecdotal evidence points to rising activity this summer, spurred by concerns about another mild El Nino
winter and attempts to stabilize corporate earnings in the currently unforgiving stock market.
Over the past six months, Mirant has developed hedging instruments that are tied to both weather and wholesale prices
for natural gas or power. In a hypothetical example, Mirant's West said a New England utility may expect to be 500
megawatts short of covering its consumers' power needs on the four days per summer on average when the high
temperature reaches 96 degrees Fahrenheit.
To guard against that shortfall, the utility's risk manager could buy a call option on 500 megawatts of power at $50 a
megawatt-hour, but the call could be exercised only on days when the high temperature hits at least 96 degrees. The
product would be cheaper than a $50 call on power for the entire summer.
"He's buying only what he needs," West said. "It offers him a less expensive insurance product."
makes the whole thing seem like INSURANCE and reinsurance rather than that nasty term energy trading. thanks. larry |
