Pricing of temperature-based weather options for Turkey

Ahmet Goncu, Mehmet Karahan and Tolga Kuzubas

Iktisat Isletme ve Finans, 2011, vol. 26, issue 309, 33-50

Abstract: Weather derivatives provide better risk management alternatives for industries, which are exposed to weather-based risks. Dynamic pricing of weather derivatives requires a suitable underlying temperature model. This paper is the first to model the average daily temperatures and prices of heating/cooling degree days (HDD/CDD) option contracts for Istanbul, Turkey. We model daily average temperatures using the mean-reverting Ornstein-Uhlenbeck (OU) process both with constant and time-varying mean reversion parameters. HDD/CDD options for Istanbul are priced using analytical approximation and Monte Carlo simulations. In most cases estimates are lower when time-varying mean reversion model is used. We also discuss several issues on the importance of weather derivatives markets for developing countries.

Keywords: Weather Contracts; Temperature Modelling; Monte Carlo Simulation; HDD/CDD Options (search for similar items in EconPapers)
JEL-codes: G13 G17 (search for similar items in EconPapers)
Date: 2011
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Citations: View citations in EconPapers (2)

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Persistent link: https://EconPapers.repec.org/RePEc:iif:iifjrn:v:26:y:2011:i:309:p:33-50

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