Hedging Weather and Catastrophe Risks using Commodity Futures as Weather Derivatives in India

Abstract

Indian Businesses are exposed to various kinds of risks such as interest rates, exchange rates, unexpected changes in the domestic economic conditions, international economic conditions and various intervening risks. Unexpected changes and business risks arising out of those have capabilities to threaten the very survival of businesses in India. Often these risks are related to the financial markets and to hedge against these risks, financial markets have developed new instruments called financial derivatives. For more than a decade, these financial derivatives have been helping the corporate world in India to hedge against various unexpected changes in the business environment but does not offer solutions to risks caused due to changes in the climatic conditions and other natural calamities. Identifying the need to protect themselves against these adverse weather conditions, developed nations like United States and United Kingdom developed weather derivative contracts to hedge against these risks. However, India has not developed such instruments to hedge against weather risks and commodity futures are being used to hedge against these losses or often these risks are covered by insurance policies. This research paper analyses predictability of some select future commodity prices on the basis of volumes and values of contracts. This will enable us to know how derivative markets can be used to hedge against losses due to adverse weather conditions.