Since its beginning a few years ago, the weather market has struggled to estimate year-to-year variations of the seasons, both to estimate the costs to affected parties and to put prices on weather derivative contracts. The first estimate the market used was simply the climatological PDF. Next it used estimates of PDFs made with statistical and stochastical models, and climatology. Later, when it began to put credence in seasonal predictions, it turned to probability forecasts, mostly of temperature.
As the time to a derivative contract period diminishes and the seasonal forecast evolves, a current practice of weather traders is to quickly adjust prices with the new information. This re-pricing based on forecasts introduces volatility into the market; while volatility is good for some, it is not good for all. The influence of forecasts for the last few seasons probably changed the pattern of who has won and who has lost. We must ask – Does the weather market use forecasts effectively? Does the meteorological community bear some responsibility for how these forecasts are used?