Weather derivatives soar...

The number of over-the-counter and exchange-traded contracts traded in the weather derivatives market grew by 43% between April 2001 and April 2002, and total notional values grew by 72% to $4.3 billion, according to a survey released last month by the Weather Risk Management Association (WRMA) and PricewaterhouseCoopers. The survey’s results were encouraging, considering the departures of weather market pioneers Enron and BNP Paribas during that period.

The results, released at WRMA’s annual conference in Miami, show particularly strong growth in the European and Asian weather risk markets. The results also show that the market is shifting from pure temperature-related contracts to other forms of protection such as against rain, snow and wind.

Valerie Cooper, a WRMA executive director, says the encouraging results were the result of more end-users coming to the market seeking weather hedges – where in the past the weather risk industry has had to work hard to secure client business.

There were 765 weather contracts traded in Europe during the survey period, up 345% over the year-earlier period, with total notional values hitting $601 million, compared with $49 million the previous year. WRMA also found that 445 contracts, worth $90 million, were traded in Asia last year – an increase of 304% and 100% respectively over the 2000/2001 figure.

With a flurry of deals based on London’s Heathrow’s airport and Orly airport in Paris, Europe looks set to increase its 14% share of the market over the next year, traders say. Although Missouri-based energy company Aquila has effectively abandoned weather risk trading in Europe and elsewhere (see page 11), traders predict that new entrants, including French bank CDC Ixis and Italy’s Banca Nazionale del Lavoro, will attract more corporate business and improved liquidity to the developing European market-place.

The US remained the dominant market for weather trading, with the number of contracts rising by 10% last year to 2,712. These contracts were worth $3.6 billion notional – a 50% increase.

Although the number of winter contracts traded nearly doubled this year, summer contracts were down 23% from 1,126 in the corresponding period last year. However, traders remain optimistic and point out that the value of summer contracts grew by 42% in North America and 183% overall. Winter is typically the busiest season in the weather market since many heating fuel providers try to offset potential sales losses in the event that their peak demand period is mild.

The launch of weekly average temperature deals on the IntercontinentalExchange, not to mention record levels of activity in monthly futures on the Chicago Mercantile Exchange and the rush to offset previous Enron positions, meant that the notional value of all the contracts traded last winter grew to $2.7 billion in North America, up 51% from the previous winter.

While temperature-related contracts made up 82% of all contracts traded last year, it was a significant fall from 92% in 2000. Rain-related contracts now account for 6.2% of all trades, while snow represents 2.2% and wind 0.4%. Weather risk traders say the increased variety of contracts point to a maturing market.

Despite these promising results some traders and brokers at the Miami conference said the survey itself is in need of revamping. “Only 20 companies were surveyed about their weather risk business, out of a total of 70 WRMA members,” says one US weather derivatives broker who wished to remain anonymous. “The survey needs to be more comprehensive to obtain meaningful results.” Last year, 19 companies completed the questionnaire.

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