Why haven’t weather derivatives been more successful as futures contracts? A case study

Abstract

Why have some seemingly promising futures contracts not succeeded in the recent past? In this paper, we examine one such example, the weather derivatives market. In two companion working papers, we also analyze two other futures market failures: namely, in the pulp market and in the uranium market. The structure of this paper is as follows. First we provide a brief history of weather derivatives contracts as well as a description of these contracts. Next we review customized over-the-counter (OTC) weather derivatives contracts, as provided by reinsurers, and then we review why futures contracts are not as successful a method of risk transfer. Lastly we describe how weather exposures do not sufficiently match up against the criteria for the successful launch of a futures contract.