Merc weather futures find place in the sun
14.04.2005, 21:19
How's the weather? Pretty nice outside, and fabulous at the Chicago Mercantile Exchange.
The Merc has made a thriving market in weather futures. The business has grown so much that trading volume in the first 3-1/2 months of 2005 has exceeded the total for all of 2004.
Yes, that's the same Merc where they set the price of pork bellies and Eurodollars. Investors can hook up with a broker and trade if they're tired of talking about the weather and think they can make money from it.
The exchange started the market in 1999, and while it attracted interest quickly from electric and gas utilities, the appeal has broadened. Exchange officials and traders contend hedge funds, investment banks and insurance firms have entered the mix, along with crafty individuals.
"We have a few Ph.D-types who speculate, and they're doing very well," said Felix Carabello, associate director of environmental products at the Merc.
Companies that are prominent in the market include Swiss Re, a reinsurance firm, and Hess Oil, Carabello said. A leading investment bank, Credit Suisse First Boston, has upped its role in weather investing, he said.
Businesses that sense financial risks related to weather often use the market as protection, while speculators are there to grease the way, taking the other side of buys and sells. Carabello estimated the market splits 50-50 between hedgers and speculators.
Through Tuesday, the Merc reported 2005 volume of 124,177 contracts in its weather division, vs. 122,987 for all of last year.
The contracts are based on an index of heating or cooling degree day units, depending on the season, for specific cities. The Merc lists contracts that expire monthly or seasonally for 22 cities, including 15 in the United States.
They are priced at $20 per index point. The April contract for Chicago closed Wednesday at 360, or a total value of $7,200. It's the first contract of the year to be based on cooling degree day units and has declined in value from a reading of about 400 last week.
Randall Blaugh, senior trader at Wolverine Trading LLC, said contracts based on New York and Chicago temperatures usually are among the most active. He also said the contracts draw more trading in the winter than in the summer.
"The hedge funds have taken to this business lately, and a lot more companies are looking for ways to hedge their risks in weather," he said. His firm is the only specialist in the contracts, an exchange-designated role that assures the constant flow of posted bids and offers.
Carabello said understanding of weather contracts is hitting a critical point with trading firms. He said volume should grow more if volatility in oil prices and their related futures quiets.
"We've been seeing cash flows leaving the equity market and going into the commodity market," he said.