Focusing on weather and global warming trends and ignoring "black swans" -- incidents that spike well above or below established trends -- could blind investors and the energy industry to opportunities, according to Bethlehem, PA-based long-range forecaster Weather Trends International (WTI).
For example, "blindly assuming continued warming climate trends will lead to the observations of slightly warmer temperatures year over year may work for a while, until a cold snap like the one that hit the eastern U.S. at the beginning of last winter produced one of the coldest starts to winter in many years," WTI's Michael Ferrari wrote in "Anticipating the Climate Black Swan," the first in a series of papers addressing black swans in weather and the markets.
Ice cover for the northern hemisphere has been steadily decreasing, especially since the early 1990s, yet the largest build in ice cover in 30 years was recorded last winter, and flooding in the Midwest in 1993 was considered "a once in a lifetime weather event" until the flooding that occurred in spring 2008, Ferrari said -- just two examples of the kind of meteorological black swans that make previous models "useless" and change world views in an instant. Basing upcoming seasonal energy demand estimates on broader trends or the previous year's observations could lead to losses when an unexpected weather event materializes, he said.
"If we assume trend-line climatology, we might get away with being right by extending a line via regression for a few consecutive years, or even decades," he said. "But when the pattern changes for reasons that are unexpected, we are not usually prepared to react. This can be viewed as a risk, but a proper and proactive risk management strategy may be able to use these events as opportunities."
Weather patterns are becoming more unpredictable and extreme, according to Ferrari, and while "speculating on these extremes (via directly in weather futures or indirectly in the energy and agricultural futures space) may be dangerous...disregarding them as unlikely events can lead to financial disaster."
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