Valuing Prediction Systems From Equity Markets

September 17, 2018

Congratulations to Associate Professor Derek Lemoine for receiving a $168,354 award from the National Oceanic and Atmospheric Association for his project titled "Valuing Prediction Systems From Equity Markets."  

Abstract:

NOAA invests substantial time and money into the development and improvement of forecast products but has faced challenges in valuing these products and measuring their impact. Seasonal climate forecasts enable decision-makers throughout the economy to undertake investments and activities that reduce their exposure to upcoming climate. Understanding seasonal forecasts' uses would be valuable to NOAA as a way of guiding investments and would be valuable to society as a way of understanding the future costs of climate change. We propose to develop and apply methods for estimating the value and uses of seasonal climate forecasts from financial market data. We will infer market actors' beliefs about the effects of upcoming seasonal climate forecasts on firms' decision-making from the prices of financial instruments. We will consider two seasonal forecasts: El Niño Southern Oscillation and Atlantic Hurricane. We will learn which seasonal forecast products are especially valuable and which economic sectors are their main users. This information is of high interest to our stakeholders: the NOAA Climate Prediction Center wants to better manage its prediction systems, and the NOAA Office of the Chief Economist wants to understand the value of NOAA science to society. Our methods will be general, so that stakeholders can apply them to other forecast products and can evaluate future upgrades to current forecast products.

The proposed work has four primary components. First, we must obtain access to the standard databases of prices for financial options and connect the history of options prices to characteristics of firms and of forecasts. Second, we must use the methods described in the statement of work to estimate the average value of each forecast to each type of firm. Third, we must develop a theoretical model that connects forecasts to firms' ability to undertake costly adaptations or risk mitigation strategies. Fourth, we must disseminate the methods and results to our stakeholders and to a broader academic and professional audience.