How extreme weather events affect financial markets

Analysis: New financial products are now being used to manage risks and raise funds to implement climate adaptation strategies

In recent years, the world has seen an increase in the frequency of extreme weather events such as hurricanes, record temperature rises, excessive rainfall, and other consequent natural disasters including rising sea levels and wildfires. These changes are a direct consequence of climate change and there is extensive research showing that changing climate conditions have a direct impact on people’s socio-economic well-being, in the form of widespread population displacement, lower farm incomes from loss of agriculture and livestock, higher unemployment and poverty.

These weather events also have significant negative effects on economic growth and development. the recent Outages Caused by Storm Eunice in Ireland are still fresh in our memories along with people like ophelia (2017), Darwin (2014) and Katia (2011).

But these extreme weather events pale in comparison to the likes of Hurricane Katrina in 2005, it exceeded $150 billion in damage. In terms of elevated temperatures, deadly summer heat waves bring severe drought-like conditions that directly influence certain economic activities. For example, certain products like air coolers experience exponential growth in demand while there are human deaths elsewhere.

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From the RTÉ archives, Robert Shortt reports for RTÉ News on the aftermath of Hurricane Katrina in New Orleans in 2005

Research provides empirical evidence on the impact of these extreme weather conditions on financial markets and companies. For example, hurricanes disrupt the proper functioning of corporations in terms of production and supply of products and services, which negatively affects their income. Similarly, corporations tend to increase their use of lines of credit during extreme temperature drops, which could result in a sharp decline in their productivity.

Industries such as agriculture, transportation, electricity generation, and tourism are more sensitive to changing weather patterns. Abnormal rainfall can have a direct impact on agricultural yield, greatly influencing the profitability of food, beverage and agricultural processing companies. As a result, farmers and financial investors face commodity price risks and this can translate into increased agricultural credit risk. Similarly, mining and quarrying activities can be disrupted due to insufficient water supply during droughts and excessive damage to infrastructure in the event of flooding during excessive rainfall conditions.

In the automotive sector, research shows that the demands of the small passenger vehicle and agricultural tractor segments can be affected by extreme rain conditions, especially in emerging markets due to their direct link with the rural economy. Sales of convertibles and four-wheel drive vehicles are heavily influenced by idiosyncratic variations in weather.

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From RTÉ One Nine News, Met Éireann says extreme weather is evidence of climate change

The negative impact during storms and hurricanes causes physical damage to urban infrastructure, such as roads and railways, disrupting transportation services. Excessive turbulence and other poor flight conditions also disrupt air transport services, leading to flight cancellations, directly affecting the operating costs and profitability of air transport companies. Furthermore, the adverse impact of transportation disruptions is directly felt in the courier and tourism sector.

As climate change creates conditions of uncertainty and distress in these sensitive industries, studies Show a substantial impact on your profits, costs and operational productivity. Due to these factors, there may be uncertainty about the future cash flows of these companies.

Stock markets generally reflect the fair value of a company based on the changing information environment. Disruptions caused to company operations and earnings can seriously affect investor confidence. This results in wide fluctuations in the share prices of these companies, while investors in the market await the corporation’s strategic response to address cash flow uncertainty. Studies Show The company’s investment strategies in climate-sensitive sectors are typically influenced by weather patterns.

Some interesting financial products are now being used to manage both risks and raise funds to implement climate adaptation strategies.

How do corporate managers deal with these events? Curiously, studies They have used the salience theory of choice under risk to explain how managers strategize their investment behavior. The theory is based on highlights from past experiences encountered by managers. The idea is that a manager who excels at recurring weather events is better equipped to deal with uncertainty.

In this sense, they undertake various climate adaptation strategies that involve investments in innovation and technology that can mitigate the risk associated with climate change. For example, the agricultural sector is adopting coping strategies such as the use of modern agricultural technology to improve yields or use weather derivatives as insurance against price volatility.

Some interesting financial products such as catastrophe bonds, water futures, nature debt swaps and green bonds they are now being used to manage risks and raise the funds needed to implement climate adaptation strategies. At EU and UN level, climate finance funds are established to raise local, national or transnational finance to support mitigation and adaptation strategies that will address climate change. However, much remains to be done in this direction.


The views expressed herein are those of the author and do not represent or reflect the views of RTÉ


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