Closed-Form Expressions for the Pricing of Weather Derivatives: The Expected Payoff for t-Distributed Indices

Abstract

We derive closed-form expressions for the expected payoff of weather derivatives contracts for a t distributed weather index. There are three common situations in which t distributions might serve as a reasonable model for weather indices: first, some weather variables may be t distributed; second the t distribution can be used as a fatter-tailed alternative to the normal distribution as a stress test or model alternative;and third, objective Bayesian predictions of normally distributed data are t distributed.

Keywords: weather derivatives, bayesian, t distribution

JEL Classification: G12