Weather Risk Management

Article excerpt

Weather Risk Management, Erik Banks, editor, 2002, Palgrave, Houndmills, Basinstroke, Hampshire, and New York: Element Re Capital Products, Inc

"Everyone talks about the weather, but no one does anything about it." That old saw has been around for a long time. It suffers from the disadvantage of being false. As an inland marine underwriter over 40 years ago, I underwrote rain insurance policies on air races and sports car shows. My department wrote rain insurance on western movies, an insufficiency of water policy for the Shasta Dam and some ill-fated contracts insuring drying raisins against rainfall. Weather insurance in this country and the world market as a whole has been around for a long time. With its emphasis on derivatives, this book seems to view the area of weather risk management as a recent development. There is no question that the advent of derivatives has changed the weather risk financing field in a dramatic fashion.

In fact, the title of this book is misleading since it covers what risk management professionals will recognize as risk financing rather than the larger topic of risk management. The book lacks any treatment of the risk management decision process starting with risk identification and measurement, including loss control and evaluation of alternatives and cuts right to the financing decision.

This orientation can be seen on page three when they state "We use the term 'weather risk' to describe the financial exposure that a business may have to weather events such as heat, cold, snow, rain or wind." This is not surprising since the book is written by the employees of Element Re Capital Products, Inc. On the book cover we are told that the market for weather risk has grown to an estimated US$7.5 billion in just four years. Element Re, a division of XL Capital is a provider of weather risk management products and "a recognized leader in the weather risk market." This book attempts to provide information about weather derivatives and to promote that product.

The bias in this book toward weather derivatives and against weather insurance can be further seen in the fact that the topic "weather derivatives versus weather insurance" is found in the chapter entitled Legal and Regulatory Issues. Here we learn that the pattern of state regulation results in insurance products being "highly regulated" unlike derivatives, which Enron has shown contain certain regulatory loose ends.

This text points out that a disadvantage of weather insurance is that one has to show an insurable interest while, "An entity executing a weather derivative does not need to show an insurable interest in property, it just needs to be adversely impacted by fluctuations in weather. …