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Hedging Adverse Bioclimatic Conditions Employing a Short Condor Position*

Published online by Cambridge University Press:  08 June 2012

Don Cyr
Affiliation:
Faculty of Business, Brock University, 500 Glenridge Avenue, St. Catharines, Ontario, Canada L2S 3A1, Tel: 905–688–5550 (ext 3136), email: dcyr@brocku.ca (contact author).
Martin Kusy
Affiliation:
Department of Finance, Operations and Information Systems, Brock University, 500 Glenridge Avenue, St. Catharines, Ontario, Canada L2S 3A1, Tel: 905–688–5550 (ext 3921),mkusy@brocku.ca
Anthony B. Shaw
Affiliation:
Department of Geography, Brock University, 500 Glenridge Avenue, St. Catharines, Ontario, Canada L2S 3A1, Tel: 905–688–5550 (ext 3866), email: tshaw@brocku.ca

Abstract

Weather derivatives are a relatively new form of financial security, providing firms with the ability to hedge the impact of weather related risks to their activities. Participants in the energy industry have employed standardized temperature contracts trading on organized exchanges since 1999, and the availability and use of non-standardized contracts designed for specialized weather related risks is growing dramatically. The primary goal of this paper is to consider the potential design and use of a weather contract to hedge the risks faced in viticulture as measured by bioclimatic indices. Specifically we examine the Winkler and Huglin bioclimatic indices over a 43 year period for the Niagara region of Ontario, Canada's largest wine producing region, and identify a mixed jump diffusion stochastic process for cumulative growing season index values. We then employ Monte Carlo simulation to derive a range of benchmark prices for a “short condor” contract employing the Huglin index as the underlying variable. The results show that valuable hedging opportunities can be provided by such contracts. (JEL Classification: G13, G32, Q14, Q51, Q54)

Type
Articles
Copyright
Copyright © American Association of Wine Economists 2008

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