How to Insure Against a Rainy Day

We are all familiar with the concept of insurance. Your home insurance protects you against fires, theft, and flooding. Your car insurance protects against serious accidents—not running out of gas. Life insurance… well, you know. With the notable exception of health insurance, the insurance industry is geared toward protecting us against the extraordinary event. It is part of how we have come to terms with the uncertainty in life. But in protecting against unfavorable weather, companies are starting to push the boundary of the insurable well into the mundane, everyday event. And they can do this courtesy of a financial instrument called a derivative.

After hundreds of years of seemingly adequate coverage by standard insurers, companies have realized the caprices of daily weather can be as costly as major storms. Employing innovative financial instruments, a wide range of weather-dependent businesses are banking on derivatives to shield their profits from Mother Nature.

One of the first weather derivative agreements involves everyone’s favorite energy company, Enron.1 In 1996, Koch Energy, owned by Kansas billionaires Charles and David Koch, approached Enron to negotiate something like an insurance policy. But it was not something they could buy from

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