Weather derivatives help fulfil Millennium Promise

Reinsurer Swiss Re has structured a weather derivatives deal to help lessen the effects of drought on African farmers for the Millennium Promise Alliance (MPA), a charity that aims to end extreme poverty worldwide by 2025.

Juerg Trueb, Zürich-based head of environmental and commodity markets at Swiss Re, said the transaction aims to alleviate the financial stress placed on the organisation by drought. It is the first time a weather derivatives deal has been designed to complement the work of a charity such as the MPA.

The deal involves three individual trades designed to hedge the MPA against the risk of drought affecting farmers in Kenya, Mali and Ethiopia. They are structured as one- and two-month put options on local normalised difference vegetation indexes (NDVIs), which have been specifically tailored by the Earth Institute at New York’s Columbia University. The local NDVIs indicate the presence of green vegetation in the three areas and will be assessed using a combination of weather and satellite data. It is hoped they will provide a good proxy for drought affecting farmers in the villages of Sauri in Kenya, Tiby in Mali and Koraro in Ethiopia.

Swiss Re said about 150,000 people in total would benefit from the coverage purchased by the MPA. The three trades comprise $2 million in notional value, at roughly $650,000 each.

“[It] is an important step in our attempt to adapt and deploy advanced risk management and financial market instruments for the benefit of agriculture in emerging markets,” remarked Trueb. He said the firm would continue to look for ways to use weather derivatives technology, which is more commonly employed by the US energy sector, to benefit non-government organisations and smallholders in emerging markets.

The deal echoes a similar transaction carried out by Swiss Re and the United Nations’ World Food Programme in 2005 (See: A forecast for change).