Weather influences our daily lives and choices and has an enormous impact on corporate revenues and earnings. Weather derivatives di er from most derivatives in that the underlying weather cannot be traded and their market is relatively illiquid. The weather derivative market is therefore incomplete. This paper implements a pricing methodology for weather derivatives that can increase the precision of measuring weather risk. We have applied continous autoregressive models (CAR) with seasonal variation to model the temperature in Berlin and with that to get the explicite nature of non-arbitrage prices for temperature derivatives. We infer the implied market price from Berlin cumulative monthly temperature futures that are traded at the Chicago Mercantile Exchange (CME), which is an important parameter of the associated equivalent martingale measures used to price and hedge weather future/options in the market. We propose to study the market price of risk, not only as a piecewise constant linear function, but also as a time dependent object. In all of the previous cases, we found that the market price of weather risk is di erent from zero and shows a seasonal structure. With the extract information we price other exotic options, such as cooling/heating degree day temperatures and non-standard maturity contracts.
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Paper provided by Sonderforschungsbereich 649, Humboldt University, Berlin, Germany in its series SFB 649 Discussion Papers with number
SFB649DP2009-001.
References listed on IDEAS Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
Richards, Timothy J. & Manfredo, Mark R. & Sanders, Dwight R., 2004.
"Pricing Weather Derivatives,"
Working Papers
28536, Arizona State University, Morrison School of Agribusiness and Resource Management.
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