Check out these two other articles - "Weather Derivatives: Fundamentals of Electricity Futures" and "The Fledgling Weather Market Takes Off - Part 1: Weather Sensitivity, Weather Derivatives & A Pricing Model."
(Copyright (c) 2000, Dow Jones & Company, Inc.)
LONDON -- There's a new market for rain and snow.
A group of United Kingdom companies, including the London International Financial Futures and Options Exchange, or Liffe, plans to launch an Internet-based over-the-counter market for weather derivatives on March 1. If it works, Liffe could follow it with a series of standardized exchange-traded contracts in the autumn.
While the market, dubbed I-WeX.com, isn't the first in the young and growing market of weather derivatives, its fans claim it will be the first to combine a bulletin board for price postings with historical weather data and other analytical tools to help investors price weather risks. "Nobody else has the three elements," says Nick Mooney, director of European weather-risk management for Enron Europe Finance and Trading Ltd.
But other exchanges are already in business, albeit in the U.S. Several competing products are expected to be pitched to potential customers attending a mid-February conference on weather-risk management in Houston. The Chicago Mercantile Exchange announced on Thursday that it is adding standardized futures contracts based on heating and cooling degree days for six U.S. cities to the four it launched in September. A degree day measures how much a day's average temperature deviates from 65 degrees Fahrenheit.
Volume so far has totaled 435 contracts, an amount a CME spokesman says is "not at all" disappointing. Earlier last week, TradeWeather Inc. of New York launched what it says is the world's first online trading system for weather derivatives, dubbed tradeweather.com. Princeton, N.J.,-based Catastrophe Exchange, or Catex, recently added weather risks to its system. In Europe, weather-related products have popped up on Deutsche Boerse AG's brainstorming list for potential electronic communications networks.
I-WeX expects users-ranging from power companies to insurance firms to brokers-will use it to seek prices for weather derivatives around the world. U.S.-based users are expected to be the main source of liquidity early on, said Rowan Douglas, managing director of WIRE Ltd., a U.K. company that provides information analysis and Internet solutions and is an I-WeX founder. "We're getting the impression from the American market that they're going to use it quite quickly," he said. "They want one system to work, and we feel we're more advanced" than competitors.
Unlike I-WeX's global aspirations, any contracts listed on Liffe are expected to be based on weather in European cities. They could be launched in the third or fourth quarter of the year, said Bill Smit, head of the exchange's commodities business. "It really depends on the market coming up with a standard."
So far, there isn't one. The market for weather derivatives began only in the summer of 1997. About $10 billion in catastrophe bonds and $3 billion to $5 billion in environmental derivatives already exist, said Richard Sandor, chairman of Environmental Financial Products in Chicago and considered the industry's pioneer. "We're seeing a wave of weather derivatives now which is forming into a whole new subsector of the derivatives market," he said.
In Europe, the market for weather derivatives is expected to grow as utilities are deregulated. One use is hedging for fixed-price heating contracts, which are offered in the U.S. But I-Wex proponents say it could even be used by more traditional companies whose profitability in part depends on the weather.
"Where will it stop?" asks Oliver Prior, director of Willis, a London-based insurance broker. "The Marks&Spencers, Asdas and Tescos will want to protect themselves against a cloudy summer, having bought huge amounts of strawberries. And what about sales of soft-top cars?"