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Pricing Temperature Weather Derivatives

Kuvaitseva, Regina LU and Dumitras, Daniela LU (2012) NEKN02 20121
Department of Economics
Abstract
The key aim of the current paper is to analyse the plausibility of a pricing model for temperature weather derivatives. The historical data are studied in order to propose a stochastic process that describes temperature dynamics in three Swedish cities. The prices of the contracts in an incomplete market of weather derivatives are obtained using a constant positive market price of risk of a benchmark temperature derivative. Numerical examples of prices of contracts are shown using Monte-Carlo simulations and an approximation formula. The precision of the approximation formula is scrutinized depending on the changes in strike, market price of risk, risk-free rate, mean temperature, speed of mean-reversion and volatility. Moreover,... (More)
The key aim of the current paper is to analyse the plausibility of a pricing model for temperature weather derivatives. The historical data are studied in order to propose a stochastic process that describes temperature dynamics in three Swedish cities. The prices of the contracts in an incomplete market of weather derivatives are obtained using a constant positive market price of risk of a benchmark temperature derivative. Numerical examples of prices of contracts are shown using Monte-Carlo simulations and an approximation formula. The precision of the approximation formula is scrutinized depending on the changes in strike, market price of risk, risk-free rate, mean temperature, speed of mean-reversion and volatility. Moreover, theoretical prices of temperature options for two Swedish cities, which are not represented on the weather derivative market, are proposed. (Less)
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author
Kuvaitseva, Regina LU and Dumitras, Daniela LU
supervisor
organization
course
NEKN02 20121
year
type
H1 - Master's Degree (One Year)
subject
keywords
Weather derivatives, commodities, temperature stochastic modelling, Monte-Carlo simulations, market price of risk
language
English
id
2734000
date added to LUP
2012-06-08 14:33:31
date last changed
2012-06-08 14:33:31
@misc{2734000,
  abstract     = {The key aim of the current paper is to analyse the plausibility of a pricing model for temperature weather derivatives. The historical data are studied in order to propose a stochastic process that describes temperature dynamics in three Swedish cities. The prices of the contracts in an incomplete market of weather derivatives are obtained using a constant positive market price of risk of a benchmark temperature derivative. Numerical examples of prices of contracts are shown using Monte-Carlo simulations and an approximation formula. The precision of the approximation formula is scrutinized depending on the changes in strike, market price of risk, risk-free rate, mean temperature, speed of mean-reversion and volatility. Moreover, theoretical prices of temperature options for two Swedish cities, which are not represented on the weather derivative market, are proposed.},
  author       = {Kuvaitseva, Regina and Dumitras, Daniela},
  keyword      = {Weather derivatives,commodities,temperature stochastic modelling,Monte-Carlo simulations,market price of risk},
  language     = {eng},
  note         = {Student Paper},
  title        = {Pricing Temperature Weather Derivatives},
  year         = {2012},
}