Research On Weather Derivatives Pricing

As the weather brings more and more significant influence on the economy, people’sunderstanding of weather risk is becoming more and more profound, meanwhile,demand forweather risk aversion gradually increased. Under the condition of this kind of background,the weather derivatives market are created and developed. By observing the development ofweather derivatives market abroad, we find that China is also very necessary to launch thiskind of financial instruments, which can effectively circumvent weather risk. Weatherderivatives will have very broad prospects for development in our country. Before thedevelopment of the weather derivatives, there are several preparatory work needed to be done,and how to carry on the pricing of weather derivatives is one of the most important task todeal with.The first chapter of this article elaborates the background of the development of weatherderivatives and the major effect of weather on various industries in our country, based on thisanalyzes the practical significance of developing weather derivatives in our country, inliterature review part this paper summarizes current pricing methods of weather derivativesboth at home and abroad. The second chapter presents the definition of weather derivativeindexes and their calculation methods, mainly including temperature index, humidity index,and rain index. Due to the most widely used in practice, therefore we focus on temperatureindex. After introduced the index of the weather derivatives, this paper summarizes severalmainstream weather derivatives pricing method.The third chapter and fourth chapter is theempirical part of this article, reference to existing weather derivatives pricing theory, based ontemperature data from January1,1987to December31,2011of Changsha city, we establisha temperature random model and a HDD option pricing model, adopts Monte Carlosimulation method to create temperature data and verifies the accuracy. In the last part,usinga winter heating corporation to illustrate how weather derivatives are used in the actualoperation.The fifth chapter provides related suggestions on type selection of weatherderivatives, index design, contract specifications, city selection of temperature index andcontract period.