16 December 2020
The growth of renewable energy has fundamentally affected approaches to weather risk.This year's Market Rankings winners in the weather derivatives markets speak to Christopher Marchant
In a year when the Covid-19 pandemic sent stocks tumbling and masses of the population sheltered from the weather by working from home, questions about how weather derivatives would adapt abounded.
"The market has not just been resilient, but actually very active, with more work in the sector seen than in the previous 12 months, with a lot of new initiatives," says Claude Brown, a partner at Reed Smith and a member of the firm's global derivatives practice. "Activity on transactions has been quite strong in Australia, South America and in Europe.
"Also, there's been a lot of focus on the Caribbean, which has come as a result of the increasing severity of weather and climate change in the region."
Reed Smith was again voted best law firm category in the global weather management category, the latest in a line of consecutive victories.
In 2019 TP ICAP expanded into the weather derivatives market, led by Eric Ernst and his brother Nicholas Ernst. Hired in April 2019, Nick joined as managing director, weather markets, and Eric as a weather broker.
This year TP ICAP was victorious in the best broker category for weather risk markets in both North America and Europe, after winning in the North America category in 2019.
Both previously worked together at Choice Energy, which claimed the Best Broker – North America title in 2018 and 2017, evidence of the Ernst effect.
Of the impact of the pandemic on the market, Nicholas Ernst says: "When Covid-19 came and the economic slowdown started, you started to see a little bit less business coming through, because there wasn't as much demand. However, most of our customers still had weather risk, so it didn't affect it as much as I would say it has other marets."
Renewable energy has seen a sustained increase in its adoption rate over the past twelve months, following a strong 2019, especially transactions related to solar and wind power. Coupled with a crash in oil prices in early 2020, the energy mix showed early signs of a truly radical transformation, with implications for weather derivatives traded in the sector.
Marcel Reif, head of weather at Munich Re, winner of best dealer or structured product seller in the European markets, says: "Many energy markets are currently undergoing a period of structural change, driven by the massive shift to renewable energy production and technological changes.This has resulted in new company formations, novel business models and increased M&A activity.
"As a whole, this transformed market faces new or altered weather & commodity risk positions. Given the direct nature of our business, it is paramount to keep abreast of these developments."
David Whitehead, co-CEO of Speedwell, which beat off the challenge of upstart Parameter Climate to retain its title as winner of best advisory for weather risk markets worldwide, gives some specificities on how this has impacted the market in 2020: "Originally, wind hedging would be in the form of a company that has a portfolio of wind power generation, worried about weather patterns that were not producing enough.That's a very simple hedge, but where the markets are getting exciting now is from market participants that have been impacted by excess production coming into the grid and impacting pricing.
"All of a sudden, your traditional energy participants have to care about wind farms, and needing to manage that risk through weather products. It's been a huge, huge growth segment of the market right now."
Technological advances have also played a huge part in updating the weather market for 2020, especially in the field of parametric weather modelling.
Martin Malinow, CEO of Parameter Climate, runner up for best advisory or data service in the weather markets, expands on what this entails: "Over the last twenty years, protection sellers have solely focused on the station to which the transaction was indexed, for example London Heathrow, and they would consider the attributes of that station in their modelling."
"What Parameter Climate is bringing to the table is actually looking at climate trends regionally, not just at Heathrow but acrossWestern Europe.This also involves analysing proprietary extreme weather indices to better understand the general volatility of climate and then factoring that into the risk analysis and pricing for our clients."
CQ Energy, partnered with Risk Solutions in an international joint venture, was named best broker in weather risk management for the Asian and Australian regions. It has also developed in non- energy markets a business focus on parametric index-based solutions and sees 'significant opportunities' in the sector.
As well as global trends, specific areas have witnessed more localised effects of climate change, the rise of renewables and an evolving marketplace. As runner-up in 2019 for best dealer or structured product seller, Munich Re's work in the continent gave it top spot in 2020.
On the European perspective, Reif says: "The increased occurrence of extreme events raises awareness [of climate change], but risk assessment and pricing has become, of course, much more difficult as these events deviate significantly from historical expectations, and innovative risk transfer solutions are increasingly required.
"A good example is the increasing number of European heat waves leading to low river levels.This has resulted not only in shipping disruption, but also limited the generation of thermal power plants who rely on the river for cooling water.The economic losses from such events can be severe."
Increasingly extreme weather is, of course, not a uniquely European phenomenon, and approaches to confronting this issue are inextricably tied to addressing how climate change is affecting the weather markets.
Speedwell's headquarters are in Charleston, South Carolina, part of an American South that experienced more than $14 billion in damages after Hurricane Laura, the strongest tropical storm to have hit the mainland US in 150 years, wreaked havoc in the region in August.
On how climate change and corresponding changes in weather are impacting the weather markets, Whitehead says: "Climate change, in the context of increased frequency of extreme weather, has made people very interested in weather risk management. All you have to do is look at headlines in any paper.
"With climate change, the markets are expanding more into these climate parameters. We're looking at wildfire, looking more at tropical products, we're looking at atmospheric pollution visibility. There are these environmental variables that are all coming into play in the same market."
Summarising the Australian markets, Dan Stilwell, head of origination at Nephila Climate, again trumping competition to be awarded winner of best dealer or structured product seller for the region, says: "A lot of what we do as a business unit within Nephila Climate is to focus on renewable energy temperature drought risk and agricultural risks of that sort. As the temperature gets hotter and hotter every year, we're doing a little bit less on the temperature side and we're replacing that with a lot more renewable energy."
While based in Australia, CQ Energy, partnered with Risk Solutions International, was also able to capitalise on its wider global presence to be victorious in the Asian markets. On its role in the Asian markets, Ian Tannebring, a partner at CQ Energy, says: "We have been for a number of years inclined to focus on Asia for various opportunities that may exist in those markets.
"We have a strong relationship with capital providers that offer options for renewables.We are looking at rolling those products into Asia, specifically Japan, which has an inflation of renewables. But it's probably fair to say that it is early days, and that these markets are still updating their regulations in this area."