Analytical View of Pricing Weather and Freight Derivatives: 1950–2020

Abstract

A weather derivative is financial instrument that companies or individuals use to hedge against the risk of weather-related losses. Freight derivatives value is derived from the future levels of freight rates, like a dry bulk-a category of cargo stowed in bulk, consisting of grain, cotton, coal, etc., carrying rates, and oil tanker rates. Numerous empirical studies exist on weather and freight derivatives and their pricing models such as Indifference Pricing Approach, Arbitrage Pricing Model, Financial Pricing model, Benchmark Pricing Approach, Fair Pricing Approach, Actuarial Pricing, Consumer Based Pricing Method, and Index Modeling. This paper aims to address issues relating to the functioning of weather and freight derivatives. This paper also focuses on the studies published on weather and freight derivatives’ pricing models during the last seven decades (i.e., 1950–2020). Objectives: (1) To understand the vital issues relating to models of weather and freight derivatives. (2) To compare pricing models of weather and freight derivatives during the last seven decades (i.e., 1950–2020).