Until it hurts their stock price many companies will be unwilling to buy products that can hedge against the risk that hot or cold climate conditions pose to their business, a weather derivatives expert advised last night.
William W. Windle, senior vice president for weather and energy products with Swiss Re's Capital Management and Advisory unit in New York, made his comments during a briefing on the market that underwrote more than $5 billion in climate risk last year, even as some firms shy from the product.
"Its not uncommon for companies, particularly in the energy sector, to have an understanding of what their exposure is, but choose not to manage that," said Mr. Windle. Many, he said, can calculate the dollar loss due to a reduction in power demand with extreme precision.
Using derivatives, firms can buy contracts to protect against a number of degree days that within a certain range over a set period that will impact negatively on customer demand or other aspects of a business.
Heating degree days and cooling degree days measure variation of average daily temperature from 65 degrees or over a season. The total number of degree days for a derivative contract period are determined by recording temperature readings for each day and accumulating the differences from that average.
Mr. Windle said he is surprised to find that despite such risk management tools companies ignore the opportunity to buy protection.
He said despite the fact that companies often blame poor results on weather and display a sophisticated knowledge of how precisely it affects their revenues, they are not held accountable.
During stock analysts conference calls with management to discuss quarterly financial returns, Mr. Windle said he does not hear them asking management about steps might have taken to deal with the climate risk.
When it comes to selling such products, Mr. Windle said it is difficult to discuss them with company's chief financial officer or treasurer who says "until the market penalizes me, why should I?"
He said it was analogous to homeowners who might avoid buying insurance for their dwellings if banks did not require it.
Despite the fact that some companies take this position and "Wall Street is giving these folks a pass," Mr. Windle said many companies are proactive and the market for derivatives is huge. He noted U.S. Department of Commerce estimates weather impacts business contributing $1 trillion to the nations Gross Domestic Product.
Among the common weather indices that Swiss Re underwrites are degree days, temperature maximum and minimum, precipitation inches and events, wind and combinations.
According to Swiss Re, which puts its market share at 20 percent of the weather market, demand by industry sectors is led by energy at 56 percent. The other segments are agriculture 13 percent, retail 9 percent, construction, 7 percent, transportation 4 percent and all others 11 percent.
Also speaking at the briefing was Judith Klugman, Swiss Re managing director ABS/ILS Distribution, who discussed catastrophe bonds and insurance linked securities. For CAT bonds she reported that new issues last year exceeded $1 billion and bonds outstanding were at $4.5 billion.
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