CME – Hurricane futures markets 101

No GravatarSouth Florida Sun-Sentinel:

[&#8230-] After a storm begins forming off the coast of Africa, for example, a buyer can obtain a contract covering the first storm to make landfall in Florida. The risk level of the storm will be determined by a sliding scale – the CME Carvill Hurricane Index – that takes into account the size of the hurricane, maximum wind velocity and damage potential. The scale starts at zero and rises as the storm becomes larger and more powerful.

If the storm approaches any part of Florida and becomes a higher category hurricane, the index rises. Thus, a contract purchased when the index was at 2, for example, at $2,000, would be worth $10,000 when the index rises to 10. The futures owner can hold onto the contract at $10,000, or sell it for a higher price if the risk increases.

If the contract is worth $10,000 and the hurricane strikes Florida, the holder can obtain $10,000 cash within a few days. This compares to traditional insurance policies where claims may not be settled for months.

However, if a hurricane does not strike land in Florida during the 2007 season, a contract – whether it cost $2,000 or $10,000 or more – is worthless. The hurricane season runs from June 1 through Nov. 30. [&#8230-]

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