Weather derivatives, says Chicago Mercantile Exchange (CME) chairman Scott Gordon, are the fastest growing new product in the over-the-counter derivatives market. The exchange is adding six new indices to its weather futures contracts, and the instruments could soon be hitting Europe. The CME said it would add six additional cities and Cooling Degree Day indices to its weather futures contract listings. Including the new indices, the CME will list both Heating Degree Day (HDD) and Cooling Degree Day (CDD) indices for 10 US cities.
The HDD and CDD contracts can provide a risk management tool helping business protect their revenue when demand is depressed or costs are high due to unexpected or unfavourable weather conditions, the CME said. Weather, it said, affects about 20% of the US economy.
Weather derivatives could be coming to Europe. The London International Financial Futures Exchange is part of a consortium behind internet OTC exchange, where weather derivatives are likely to change hands.
Liffe will be watching to see how successful these contracts prove, and then it plans to launch standard weather contracts on its own trading platform Liffe Connect in the latter part of this year, the exchange said.
“There is a lot of positive feedback not only from the insurance industry by also from the energy side the agricultural industry,” said Bill Smit, head of non-financial products at Liffe. The first contracts to be listed, some UK and some European, would probably be HDD contracts similar to those on the CME, while there would be less need for CDD contracts in Europe.