The firm’s ForecastRisk package doesn’t aim to settle any big-picture questions about climate change. Instead, it’s meant to give energy traders, hedge funds and commodities investors daily information to help them place their bets on the market.
“Energy trading is one of the industries that is most impacted by changes in temperatures,” said John Plavan, the firm’s CEO. “Energy traders ingest as much data on weather forecasts as they can get their hands on, coupled with trends in supply and demand, so they can more accurately predict what prices are going to be like.”
Energy prices can vary sharply depending on the weather, with prices of heating oil rising as temperatures drop in winter, and demand for electricity rising along with the heat of summer, as homeowners turn on their air conditioners.
By giving investors a better idea of whether temperatures will be above or below historic trends over the next 20 to 40 days, Plavan says, ForecastRisk provides “monetizable information” to traders.
ForecastRisk was developed by Plavan’s business partner Stephen Bennett, a former energy meteorologist for Enron, which monitored the weather closely because of its impact on prices.
When Enron collapsed, Bennett and other Enron meteorologists migrated to Chicago’s Citadel Investment Fund, one of the world’s largest hedge-fund managers, which monitors the weather to aid its investment decisions in energy and other commodities.
Hoping to improve the accuracy of his forecasting, Bennett went to the Scripps Institution of Oceanography at UC San Diego. After assembling weather data from the past three decades, Bennett developed a computer model that could give a range of predictions of how far temperatures would stray from the norm over the next 20 to 40 days, in comparison to standard forecasts where the accuracy drops sharply after six to 10 days.
“It’s not like a weather forecast, saying that temperatures along the bay will dip to 62 degrees on Friday,” Plavan said. Instead, he said, the prediction might be more like, “in the next 20 days, there’s twice the normal chance for the Eastern U.S. to be above average temperatures,” accompanied by a list of percentages projecting how likely it would be for the temperatures to hit more specific ranges.
Plavan, a former energy industry executive turned venture capitalist, met Bennett when he was scouting Scripps for ideas to invest in. Because of their mutual experiences in the energy field, Plavan and Bennett have already attracted clients among energy investors and traders.
Adam O’Shay, president and head of trading at Leeward Pointe Capital, calls ForecastRisk “a unique decision analytic that I use daily and is something I cannot find elsewhere in the commodities space.”
Beta-users of the product already got a chance to see it in operation last winter. At the time, many meteorologists were predicting a cold winter in the Northeast, which would mean greater demand for heating oil, pushing prices higher.
But ForecastRisk said it was more likely that temperatures would be above the long-term average. Based on that information, some investors shorted the market on heating oil — essentially betting that the price would go down.
Plavan foresees a time when ForecastRisk can be used by farmers debating what crops to use, insurers evaluating weather-related risks or even tourism-related companies trying to determine how likely it is that weather might interrupt their customers’ vacation plans.