If the occasional trip to Las Vegas isn’t exciting enough, on March 12 the Chicago Mercantile Exchange (CME) began offering contracts extending its existing weather contract market.  The new contracts cover the first three hurricanes that hit Florida and four other coastal regions during this year’s hurricane season.  The contracts allow insurers, utilities, oil companies and others protection against risks not covered by traditional insurance.  Buyers can obtain a contract covering the first hurricane to make landfall in Florida, for example, after a storm begins to form off the coast of Africa. 

The CME Carvill Hurricane Index determines the risk level of the storm on a sliding scale based on the size of the hurricane, maximum wind speed and potential for damage.  The index rises as the storm approaches any part of Florida and its category goes up.  For example, a contract purchased when the index was 2 at $2,000 would be worth $10,000 when the index rises to 10.  A futures’ owner can hold on to the contract or sell it for a higher price if the risk increases.  The contract allows the holder to obtain the value in cash a few days after a hurricane strikes.  If a hurricane does not make landfall during the 2007 the contracts become worthless. Some industry experts warn that the contracts could increase the volatility of the market.

Futures Market Adds Bets on Arrival of Hurricanes (Fort Lauderdale Sun Sentinel 3/12/07)

March 20, 2007