Placing bets on the climate

Developments in ‘big data’ science and the weather risk industry are transforming the political economy of climate change

Jo Bates
Jo Bates

The recent news story regarding Monsanto’s US$930million acquisition of the data science company, Climate Corporation, raises important questions about the form of political economy that is being developed in response to the challenge of climate instability.

A new generation of data analytics firms are emerging, using innovations in the field of data science in order to turn vast datasets (‘big data’) into exploitable information. As the Financial Times reported, Monsanto’s purchase of Climate Corporation signals the ‘first significant acquisition’ of this emerging ‘big data’ industry.

Climate Corporation’s offering is a form of online self-service weather insurance for US-based farmers. Whilst still offering standard insurance products that pay out if damage to crops occurs, the company also offers an innovative new product called ‘Total Weather Insurance’  (TWI). TWI pays out based solely upon observed weather conditions, rather than crop damage. If the observed weather conditions trigger a pay-out, a cheque will be automatically generated and arrive within days of the end of the policy coverage period.

In order to calculate the price of policies and pay-outs, Climate Corporation data scientists analyse three million new data points  a day from twenty two datasets, using a variety of advanced ‘big data’ analysis techniques.  The data themselves come from a range of third-party providers, including the US National Weather Service, which publishes the weather data it collects online for anyone to re-use without charge.

Total Weather Insurance is a new form of financial product being sold direct to farmers via online self-service portals. But the underlying innovation, in terms of a financial product paying out based on observed weather rather than insured loss, is not new.

Weather derivatives were developed within the US energy industry by Enron, Koch Industries and Aquila in the mid-1990s when Enron found insurance companies unwilling to insure the company against non-extreme weather events. In order to overcome this barrier, Enron created its own financial product – the weather derivative – taking inspiration from the energy futures markets in which it was involved. The development of the product as a derivative (and therefore a financial, rather than insurance, product) allowed Enron to avoid the regulatory constraints placed on energy companies’ use of insurance products.  Rather like Climate Corporation’s Total Weather Insurance, this created a financial product that pays out if certain weather conditions are met, regardless of any actual loss.

Whilst weather derivative contracts are traded across all forms of weather event, by far the most popular contracts are based on temperature and the divergence of the average daily temperature from 18⁰C. These products are known as Heating and Cooling Degree Days (HDD and CDD) contracts and are popular in the energy industry.

The weather derivatives market saw massive growth in the mid-2000s, experiencing both the hedge fund boom of 2005-6 and the pre-crash boom of 2007-8. As with other forms of financial product, the vulnerability of the weather derivatives market was highlighted when the market crashed during 2008-9 and 2009-10, with only slow signs of growth by 2011.

 graph for bates blog2

However, the Weather Risk Management Association  is hopeful for weather derivatives, pointing to continuing growth outside the US markets throughout the downturn, growing interest in non-temperature-related weather derivatives, and increasing interest from outside the energy industry.

Until recently, UK based traders had to purchase their weather data from the Met Office in order to conduct forecast analyses and price weather derivatives contracts. The financial services sector has long complained that the weather risk and derivatives markets in the UK have therefore been restrained by the lack of freely available weather data, and accordingly have lobbied for a data access and re-use policy similar to the USA. In 2011, the new Coalition government obliged, announcing that, as part of its Open Government Data initiative, ‘the largest volume of high quality weather data and information made available by a national meteorological organisation anywhere in the world’ would be opened for anyone to re-use without charge.

The entrance of Monsanto into the data-driven weather risk market represents the growing interest in, and value to be extracted from, weather risk financial products outside of the energy sector – in this case agriculture. The combination of increasing amounts of freely available and re-usable weather data, the development of more advanced ‘big data’ analysis techniques, the growing global demand for a variety of weather risk and derivatives products across a wider range of industries, and the development of simple online self-service portals for buyers as designed by Climate Corporation all suggest that the exploitation of unstable weather systems is still in its early days.

Crucially, these developments expand the range of economic actors with a financial interest in continuing climate instability. Whilst the claim is often made that weather derivatives and similar products balance out the financial impact of weather instabilities on affected businesses, thus smoothing adaptation to climate change, serious political-economic questions do arise about who actually benefits from these financial products.

The model of paying out based upon observed weather means, in effect, placing bets on future weather conditions – rather than a business insuring itself against a specific loss. Clearly, during a time of instability in global weather systems, there is a lot of potential profit to be generated from such financial products. The emergence of this developing data-driven weather derivatives and risk market is, therefore, troubling. It exploits common threats in order to generate private wealth, favours those in a financial position to protect their interests in these markets at the expense of those most vulnerable to climate instabilities, and could reduce the incentive for those profiting in these markets to engage in action to mitigate climate change.