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WRMA on winter weather risk

Winter weather including snowfall, ice and subzero temperatures have created challenges for businesses and municipalities, said the Weather Risk Management Association (WRMA). 

The unpredictability of winter weather creates uncertainty for companies to plan for energy uses, snow removal, and sand and salt costs – ultimately leading to budget overages and mounting costs throughout the winter season, according to WRMA.

Major snowstorms are extremely costly, but with the prudent use of weather risk management tools – futures, customized contracts and reinsurance – businesses can protect profits and assist municipalities in managing their budgets.

The cost of snow removal on roads and walkways has weighed heavily on towns and cities. By using a snowfall hedge to mitigate the weather risk, municipalities could prudently manage costs related to the storm. The level of service could remain high while the burden on taxpayers could be reduced or eliminated, according to the Association.

Snow Futures

Snow removal companies and salt/gritting companies are beginning to see the benefits of hedging the economic impact of snowfall and cold temperatures. U.S. salt companies are already using snowfall futures to hedge their winter financial risk exposure, thereby helping to smooth out revenues.

Snow futures and options contracts were launched on the CME Group’s Chicago Mercantile Exchange in 2006 for New York Central Park and Boston Logan International airport. In 2009, CME Group expanded the number of cities to include Minneapolis/St. Paul Airport, Detroit Metro Airport, Chicago O’Hare International Airport, and New York LaGuardia Airport. Snow futures and options can be traded on a monthly or seasonal basis. CME Group also offers binary options, which are being used to lessen the economic consequences from below normal snowfall or above average snowfall.

Frost Day Certificates

In the UK, it is typically cold weather, not snow, that’s the primary culprit during the winter. Gritting companies are now using Frost Day Certificates as part of their risk management programs. Frost Day Certificates are a cost-control solution whereby purchasers receive an automatic payout if a predefined parameter for the number of frost days is met. This allows gritting companies to manage their costs when there’s an extended period of cold weather, resulting in increased demand for gritting.

Construction Industry

The European construction industry is also using Frost Day Certificates to offset the impact of cold weather on revenues. In The Netherlands, labor agreements prevent workers from working in freezing temperatures. If temperatures are below freezing at 10 am, construction worker aren’t allowed to be on construction sites and must be sent home with pay. If the freezing weather is extensive, the cost of wages and lost production could extremely detrimental to a company’s balance sheet. By using Frost Day Certificates, a construction company can minimize its financial risks. During the winter of 2010-2011, Dutch companies took out several million Euros in coverage to prevent losses from severe, sustained cold weather thereby protecting revenues from being adversely affected by the weather.

Outdoor Recreation and Tourism

Profits generated by outdoor recreation and tourism businesses, such as ski resorts, are tied to winter weather conditions. Weather derivatives can be used to offset the financial impact of warm weather and/or lack of snow on a ski resort. These financial tools would augment a ski resort’s artificial snowmaking efforts. A weather derivative can be employed for a set period of time, such as a busy period for the ski resort, when insufficient snowfall can cut into profits. Ski resorts use weather derivatives to hedge risk since traditional insurance products may not provide comparable coverage or are unavailable.

Traditional Energy

The energy industry has used weather risk management tools for a number of years. Utilities look at weather forecasting models to determine likely energy usage by consumers.  It is very advantageous for utilities to correctly forecast energy demand. Should utilities come up short, they will need to purchase power on the spot market. That can be extremely expensive. However, a prudent utility will have used weather risk management tools to hedge that scenario.

Renewable Energy

Renewables are subject to the impact of winter weather as well. While not a daily occurrence, wind farms have been shut down due to icing on the turbines. With no power being produce, the owner of the wind farm likely will need to purchase power on the spot market to supply its customers. By using a weather risk management tool, the utility can mitigate the impact of purchasing replacement power at market rates.

Source: WRMA