FOR IMMEDIATE RELEASE

Hurricane Futures

New experimental financial market aims to understand hurricane information better

VIRGINIA KEY, FL (August 15, 2005) — What information do people rely on when it comes to hurricane forecasting? That's what researchers at the University of Miami and the University of Iowa want to know. And rather than just polling for this information, they have taken what they believe is a more accurate, albeit far less conventional approach to getting their answer.

Today the University of Miami Rosenstiel School and School of Business in collaboration with the University of Iowa's Tippie College of Business and its Iowa Electronic Market (IEM) officially open the Hurricane Futures Market (HFM). Meteorologists and other experts will be given seeded accounts worth $100 each to invest in futures contracts whose payoff depends on where a given hurricane makes its first landfall. The researchers are investigating why the public's expectations for hurricane landfalls sometimes differ from the National Hurricane Center's forecasts. They hope to be able to spot trends that indirectly reveal sources of hurricane information, such as following hurricane tracking updates from the National Hurricane Center.

“Hurricanes are a terrible fact of life,” said David Letson, one of the project's three principal investigators and an associate professor in the UM Rosenstiel School Division of Marine Affairs and Policy. “In assessing the risks we face, we rely heavily on the expert opinions of the National Hurricane Center. Increasingly, we are also turning to numerous other sources of forecast information on radio, TV, and the Web. Often, this information directly plays into how the financial community assesses our risks, such as with windstorm insurance premiums.”

The HFM research team designed their project because of the ability of markets to reveal information about future events. The futures price of oil, for example, is considered to be the best predictor around for future availability of this essential commodity and is widely used by economic and political forecasters. When new information appears, it is reflected immediately in the futures price from the actions of buyers and sellers who are able to act first. Beginning in 1988, members of the University of Iowa's IEM project used that idea to develop the concept of “prediction markets,” markets whose sole purpose is to provide forecasts of the outcomes of uncertain events. Prediction markets have since proven themselves to be very effective in forecasting outcomes of such events, such presidential elections, Federal Reserve interest rate policy decisions, movie box-office receipts, and Nobel prizes.

In launching HFM (http://hurricanefutures.miami.edu), the researchers pose the question of whether a hurricane futures market might teach us something about what information meteorologists and others with a vested interest in hurricane outcomes trust and use, and how well they understand it.

How it works
Each time a new hurricane or tropical storm is named, HFM researchers will create a set of futures contracts, each of which represents a section of U.S. coastline, and post them on a trading screen maintained by the IEM. The expert participants can then buy and sell those contracts, based on their beliefs of where the storm is most likely to make landfall. As investors' confidence in a hurricane touching ground at a particular location increases, the price of that section should rise, and the prices of other sections should fall.

Started today with the University of Iowa's experience, guidance, and model, the Hurricane Futures Market is the product of professors Letson, David Nolan, and David Kelly. They came up with this concept because of large untapped sources of information that could potentially improve hurricane forecasting. New models for hurricane prediction develop every year that don't play into the current National Oceanic and Atmospheric Administration (NOAA) hurricane forecasts.

“By using experts only and through seeded accounts this first year, we obviously limit how much we learn about the general public's perceptions of hurricane information,” said Kelly, an associate professor and director of graduate studies in UM's School of Business Department of Economics. “However, they represent a large portion of the information being circulated to the general public and have clear expertise in the field. Ultimately, though, we would like to open this up to the general public to evaluate, perhaps, some of the less-scientific information trends that we might be able to observe.”

“HFM is not a hurricane forecasting tool, and shouldn't replace those that exist or factor into decisions of preparation or evacuation,” said Nolan, a UM Rosenstiel School assistant professor in the Division of Meteorology and Physical Oceanography. “Our goal is to understand if and how experts use the wide array of hurricane-related information available today.”

Background
In recent years, a number of researchers have contrasted market predictions with those of polls or experts. The IEM securities have consistently beat polling data in predicting election results. Researchers at the University of Frankfurt created securities to predict the winners of the 2004 Nobel prizes. For the Nobel Prize in economics, a security that paid $1 if Ed Prescott (the eventual winner) won sold for $.63, far above the next highest candidate, Robert Barro, whose security was trading for $.46.

DISCLAIMER: HFM is an experimental research tool and is not a hurricane track forecast. Individuals seeking information on tropical cyclones, including hurricanes, should contact the National Hurricane Center. For the official National Hurricane Center forecasts, go to their Web site at http://www.nhc.noaa.gov.

Employees and contractors of the National Weather Service, or in NOAA's Office of the General Counsel will not be invited to participate in the HFM. Because NWS employees may have access to meteorological information not available to members of the public and to such information prior to when it is made available to the public, investment in HFM would be comparable to “insider trading,” which is prohibited by ethics regulations as a misuse of government resources or one's government position. The specific regulations that address misuse of government position (using public office for private gain, using non-public information) are 5 C.F.R. § § 2635.701 - 2635.70.

Rosenstiel School is part of the University of Miami and, since its founding in the 1940s, has grown into one of the world's premier marine and atmospheric research institutions.

Media Contact

UM Rosenstiel School
Ivy Kupec, Communications Director
305.421.4704 (o) 305.984.7107 (m)
ikupec@miami.edu