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Weather veins

Published in Automated Trader Magazine Issue 30 Q3 2013

Some companies will scour the earth for the right weather data to power trading strategies. Adam Cox reports on the business of weather information, a type of data that can play an enormous role for a host of markets.

A Guatemalan mountaintop might seem an odd place to find your edge. But if you're hoping to get ahead in some markets, you may need to be prepared to travel far for your data.

"Understandably, ag traders want the data exactly where the crops grow. That's not always possible. You have a lot of basis risk between where the crops grow and where the weather is observed," said David Whitehead, director of US operations at Speedwell Weather. "But there's always a push. Everyone wants it exactly where the crops grow."

Speedwell sells information from government meteorological offices around the world, cleaning or recalibrating the data to add value. In some cases, it has its own weather stations or it may work with local met offices to supply historical records that would otherwise not be available.

Energy and agricultural trading firms have long recognised the value of weather data, and they're not the only ones. "We've got a number of clients that are hedge funds," Whitehead said "It's one group feeling like they've got a better forecast or better data than the other. It's a very information-driven market."

Weather is very big business. From a fundamental perspective, it directly affects one third of businesses worldwide, according to the Chicago Mercantile Exchange, which has a large stable of weather derivative contracts.

Weather is a central factor in both supply and demand considerations for energy and commodities sectors.

It can affect supply chains for swathes of industry due to its logistics implications. And there have been numerous studies looking at how weather affects equity market trading.

What's more, extreme weather is occurring more frequently, while meteorologists' ability to forecast weather has improved significantly over the years. There is also a latency play to be had, for those firms that are ready to spend the money.

Taken together, all of this would suggest that weather data would be a rich vein for firms hoping to find alpha via proprietary models. To be sure, there is plenty of anecdotal evidence that some companies are engaged in this area. And yet, the focus on weather and weather data has not panned out exactly as some expected about a decade ago.

Should adventurous traders view this as an opportunity to do something different from the crowd? Conversations with meteorology offices, data vendors, analytics firms and academics suggest that weather offers possibilities that are not being exploited widely.

"A world of difference"

As it happens, information from that Guatemalan mountain is currently in high demand, and it's due to a disease called coffee rust.

"The propagation of that disease is weather-dependent. So you start looking at countries like El Salvador and Guatemala, and where the coffee crops are grown at elevation, people are trying to obtain data that's very localised," Whitehead said.

Weather data in some areas can be much more varied than in others. "If you're working in a mountainous region, or a tropical region, it makes a world of difference if you just go a couple miles in each direction or change the elevation 1,000 metres," he added.

Weather stations. A map of approximately 10,000 weather stations used by Speedwell to monitor commodities. These do not represent the total universe of weather stations.
Weather stations
A map of approximately 10,000 weather stations used by Speedwell to monitor commodities. These do not represent the total universe of weather stations.

Two other factors complicate the picture for data-hungry firms.

The first is that some data is simply difficult to get your hands on.

"For Guatemala, you know, it's a developing country. They do a great job with the resources they have, but it isn't the same type of budget that NOAA has here in the US," Whitehead said, referring to the National Oceanic Atmospheric Administration.

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