Abstract
In this paper, a new form of weather derivative contract, namely the climatic zone-based growth degree-day (GDD) contract, is introduced. The objective is to increase the risk management efficiency in the agricultural sector of China and to reduce the model dimension of multi-regional temperature-based weather derivatives pricing. Since the proposed contract serves as a risk management tool for all of the cities in the same climatic zone, we compare the risk hedging power between the climatic zone-based and the city-based GDD contracts. As a result, we find that the differences between the two types of temperature-based weather contracts are maintained within a certain range.
Highlights
Among all of the economic sectors that are influenced by weather uncertainties, agriculture is always the priority to be considered when it comes to managing weather risks in China (Turvey and Kong, 2010 [1], Heimfarth and Musshoff, 2011 [2], Ender and Zhang, 2015 [3])
Despite that weather derivatives have not been traded in China so far, the majority of the studies indicates that weather derivatives can reduce agricultural risks, especially those associated with yield variations (Sun et al, 2014 [5], Pelka et al, 2014 [6], Ender and Zhang, 2015 [3])
We introduce two climatic zone-based indices for temperature-based derivative contracts, i.e., the average climatic zone-based (ACZB) growth-degree day (GDD) and the weighted climatic zone-based (WCZB) GDD contracts
Summary
Among all of the economic sectors that are influenced by weather uncertainties, agriculture is always the priority to be considered when it comes to managing weather risks in China (Turvey and Kong, 2010 [1], Heimfarth and Musshoff, 2011 [2], Ender and Zhang, 2015 [3]). Agriculture in China is more sensitive to weather risks than in developed countries due to its extremely large rural population and underdevelopment. Despite that weather derivatives have not been traded in China so far, the majority of the studies indicates that weather derivatives can reduce agricultural risks, especially those associated with yield variations (Sun et al, 2014 [5], Pelka et al, 2014 [6], Ender and Zhang, 2015 [3])
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