141 NTU Management Review Vol. 31 No. 1 Apr. 2021 information since March 1, which makes the price holds at the level around the final settlement. And the monthly rainfall index of March is greater in 2005 than in 2006, which results in the reverse of the MPR. Analysis (v): The negative MPR According to Figure 6, we conclude that all puts and calls with greatergreater strike prices have a negative MPR. Combined with the definition of ARA and sensitivity analysis, we find that the participants of precipitation derivatives market are more riskloving, which means they prefer to shoulder the risk from holding precipitation derivatives, even with negative compensation (a negative MPR). But why would they behave in such a seemingly irrational way? It is a reasonable explanation that the goal for their participation is to transfer the weather risk they originally hold into this derivatives market. In other words, the market participants are mainly hedgers, since a negative risk premium cannot attract any speculators. But in a mature market, both hedgers and speculators are indispensable, which may explain the shrinking of the precipitation derivatives market. 4.4.5 Risk Management From the above empirical analysis, we present several applications in risk management as follows: (1) The result of analyses (i) and (ii) show that, due to the small scale of the weather derivatives market, participants could gather more information about the weather conditions, which helps to estimate a proper expected rainfall index. (2) The result of analysis (iii) shows that the local weather and climate features could affect the price (and risk premium) of rainfall derivatives and should be considered when trading and analyzing the weather derivatives. Taking Des Moines as the example, since risks of high precipitation in spring and summer did exist, market participants should allocate more positions on call options rather than put options. (3) Recall the result of analysis (iv): extreme climate events and related catastrophes such as Hurricane Katrina could positively stimulate the weather derivatives market. Surely investors could enter the market after such occurrences, but they would also need to note the fluctuations in market price. (4) The results of analysis (v) and sensitivity analysis show that the risk attitude of the whole market plays an important role in the price variation. The ERI would be greater with a larger MPR, which implies that the investors could adjust their allocations of precipitation derivatives by referring to the MPR calculated daily during the trading period.
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