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Hedging Weather Risk Using Weather Derivatives Hedging Weather Risk Using Weather Derivatives: Overview & Case Study AB InBev Word count: 22.765 Arnaud Hoornaert Student number: 01408790 Supervisor: Prof. Dr. Dries Heyman A dissertation submitted to Ghent University in partial fulfilment of the requirements for the degree of Master in Corporate Finance Academic year: 2017 – 2018 II Deze pagina is niet beschikbaar omdat ze persoonsgegevens bevat. Universiteitsbibliotheek Gent, 2021. This page is not available because it contains personal information. Ghent Universit , Librar , 2021. Hedging Weather Risk Using Weather Derivatives: Overview & Case Study AB InBev Word count: 22.765 Arnaud Hoornaert Student number: 01408790 Supervisor: Professor Dries Heyman A dissertation submitted to Ghent University in partial fulfilment of the requirements for the degree of Master in Corporate Finance Academic year: 2017 – 2018 IV Abstract Purpose: The purpose of this master’s dissertation is twofold. On the one hand, a comprehensive overview of the existing literature regarding weather risk management and more particular weather derivatives is given. On the other hand, we zoom in on the weather exposure of the beer consumption in Western-Europe using data from the world’s biggest brewery AB InBev. Methodology: We perform statistical analyses to lay bare the weather exposure of one of the largest FMCG companies in the world: AB InBev. Moreover, we design a weather hedging strategy using exchange-traded weather options. The option premium payments are calculated via Burn Analysis and Monte Carlo Simulation. Findings: We have found a significant relationship between the quarterly average of daily maximum temperatures in London Heathrow and the beer sales volume (in litres) of AB InBev in West-Europe. The inverse regression model suggests that a rise in the quarterly average of daily maximum temperatures in London Heathrow from 8°C to 13°C equals a 15% increase in beer sales volume. The profitability of the hedging strategy greatly depends on the time horizon. Keywords: Weather Derivatives, Risk Management, CME, AB InBev, Hedging, Futures and Options V Acknowledgement I want to break the ice by thanking my parents for supporting me in the days when I felt snowed under. Rain or shine, they have helped me to improve the quality of this master’s dissertation. Moreover, I want to thank Prof. Dr. João Amaro de Matos from NOVA School of Business and Economics in Lisbon for awakening my interest in the derivatives market. A special word of appreciation goes out to my promotor Professor D. Heyman for shedding light on topics from the derivative literature. In days when I was scattered to the four winds, Professor D. Heyman provided me guidance and gave me the liberty to explore the weather derivative literature. Writing this master thesis brought me a ray of sunshine and in the end, I am on cloud nine with the result. With sincere gratitude, Arnaud Hoornaert, May 28th, 2018 VI Table of Content Abstract ................................................................................................................................. V Acknowledgement ................................................................................................................ VI Table of Content .................................................................................................................. VII Abbreviations ........................................................................................................................ X List of Figures ....................................................................................................................... XI List of Tables ....................................................................................................................... XII Introduction ........................................................................................................................... 1 Chapter 1. Risk Management ............................................................................................ 4 1.1 Types of Risk .......................................................................................................... 4 1.1.1 Preventable Risk .............................................................................................. 4 1.1.2 Strategic Risk ................................................................................................... 4 1.1.3 External Risk .................................................................................................... 4 Chapter 2. Weather Risk.................................................................................................... 6 2.1 Impact Classification ............................................................................................... 7 2.1.1 Impact on Volume ............................................................................................ 7 2.1.2 Impact on Supply, Demand and Operational Exposure .................................... 8 2.2 Weather Risk Management ..................................................................................... 9 2.3 Recent Trend .........................................................................................................10 2.4 Integral Part of Risk Management ..........................................................................12 Chapter 3. Conventional Derivatives .................................................................................14 3.1 Overview/Description .............................................................................................14 3.1.1 Futures and Forwards .....................................................................................14 3.1.2 Options............................................................................................................14 3.1.3 Swaps .............................................................................................................15 3.2 Hedging using Conventional Derivatives ................................................................15 Chapter 4. Weather Derivatives ........................................................................................16 4.1 Overview/Description .............................................................................................16 VII 4.1.1 Brief History ....................................................................................................17 4.1.2 Different Exchange-Traded Weather Derivatives Contracts .............................18 4.2 Hedging using Weather Derivatives .......................................................................22 4.2.1 Weather Hedging Strategies using Options .....................................................23 4.2.2 Weather-Exposed Industries ...........................................................................25 4.2.3 OTC vs Exchange-Traded Weather Derivatives ..............................................30 4.2.4 Empirical Results on Hedging using Weather Derivatives ...............................31 4.2.5 Practical Examples of Hedging using Weather Derivatives..............................32 4.3 Pricing Models for Weather Derivatives ..................................................................34 4.3.1 Burn Analysis ..................................................................................................35 4.3.2 Monte Carlo Simulation ...................................................................................36 4.4 Alternatives for Weather Derivatives ......................................................................38 4.4.1 Insurance ........................................................................................................38 4.4.2 Natural Hedging ..............................................................................................38 Chapter 5. Case Study AB InBev ......................................................................................40 5.1 Objective of the Case Study ...................................................................................40 5.2 Company Presentation ...........................................................................................41 5.2.1 History of the company ....................................................................................41 5.2.2 Core Business .................................................................................................42 5.2.3 Financial Performance ....................................................................................43 5.3 Data-Analysis .........................................................................................................43 5.3.1 Beer Sales ......................................................................................................43 5.3.2 Choice of Weather Station...............................................................................47 5.3.3 Testing Variables ............................................................................................48 5.4 Weather Hedging Strategy: Hedging against relatively cold winter .........................57 5.4.1 Call Option Premium Payments.......................................................................59 5.4.2 Result from the Hedging Strategy ....................................................................64 5.5 Reflections on the Case Study ...............................................................................68 Conclusion ...........................................................................................................................70
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