From the June 2007 issue of Treasury & Risk magazine

Weathering the Odds

It's been known for decades that a wide swathe of U.S. commerce is exposed to the weather--the Department of Commerce says a third of GDP is produced by weather-sensitive industries. But for many of these companies, there has been precious little that they can do about Mother Nature. Now, help may be at hand from the Storm Exchange, an electronic weather risk exchange launched in April.

Exchange-traded weather derivatives--contracts that pay out when the sun fails to shine or too much rain falls--have typically catered to energy industry needs, says Storm Exchange president David Riker. The only alternative has been expensively tailored contracts arranged on a bilateral basis by the big investment banks. Storm Exchange aims to make derivatives more accessible to a wider range of companies. "We're looking to fill the gap in the middle--to create standards by which industries can measure the financial impact of weather conditions, create transparency about that impact and produce industry-specific solutions. That just hasn't existed in the past," Riker says.

Storm Exchange offers subscribers 500 industry-specific indices, which track conditions that could directly or indirectly affect an industry's earnings--for example, rain that could delay flights or construction work. Those indices are broken down by geographic areas and compared to historic averages. This customized weather risk profile allows a treasurer to determine whether an exposure is worth hedging. If the answer is yes, then Storm Exchange connects the company with counterparties that offer standardized contracts that take effect if the index hits a predetermined level. "You're not trying to transfer all risk," says Riker. "If I'm an outdoor entertainment facility, I don't need to hedge all rain. I do need to understand the economic impact over a certain threshold and the cost of transferring that risk. I'm then in a position to decide [what makes] most sense--transfer or retain."

Looking ahead, climate change will result in more volatile weather and seasonal patterns, he says--just a little rainmaking for the exchange.

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