The weather has been a constant backdrop to human evolution. It has also been a ready provider of investment metaphors for analysts looking to add colour to market commentary. For instance, recent volatility has put equity markets under a cloud with stormier investment conditions expected, driven by dampened Chinese economic indicators. Metaphors aside, the weather itself can have a profound influence on investment market conditions.
One US study has observed that stock market performance is strongly correlated with morning sunshine. The research paper analyses 26 stock exchanges and finds that one can successfully invest on the weather alone! This is somewhat counter-intuitive to our assumptions of rational price-setting.
Exposing yourself to sunlight produces Vitamin D. This encourages our brain to produce serotonin which makes us happier. Is happiness enough to inspire a more positive approach to trading, lifting market performances? The findings of this paper didn't quantify causality and this article explores anecdotal impacts that current weather forecasts might have on various industry sectors.
The weather forecast
We were drawn to this topic by recent publicly available data published by the Bureau of Meteorology (BOM). The BOM’s weather models are now predicting unseasonably warm weather, peaking in late 2015 at the height of an El Niño event. The chart below outlines anticipated mean temperature divergence.
From the above projections it is clear to see we are set for warmer and drier conditions in Australia this summer (south of the tropics). Let's consider how this might impact the Australian economy?
Agribusiness – Hotter and drier seasonal means will influence how farmers manage crop exposures. Lower expected natural rainfall will place pressure on water usage. Increase cost of irrigation and/or inflated water usage rights will increase price of agriculture or reduce producer margins. Generally yields will decrease.
Construction – Prolonged drier weather has the potential to expedite construction. The Australian economy has transitioned from a commodity boom to a housing construction boom. Clear and dry weather has the potential to underwrite better than expected growth in housing delivery.
Retail – There is a well-established link between sunny weather and more positive consumer spending.
Energy – If an Australian summer wasn't hot enough, adding a couple of extra degrees above the mean will place even greater demand on air-conditioning and refrigeration use. This results in an increase in the demand for power which should benefit power providers. However, power prices are well regulated and if the cost of generation increases (due to water shortages), this may actually reduce the profitability of providers (as water is required in coal fired power generators). Energy is a tricky industry to dissect and has been arguably one of the most volatile industry sectors this year.
Banking and Finance – Australian banking is driven by residential mortgages. If property completion is expedited, this may result in a temporary up-tick in mortgage growth, resulting in enhanced banking profitability. However, if this also results in an oversupply in housing and housing prices deteriorate, there could be a material reduction in the quality of existing lending exposures.
Other things influenced by the weather
Violence – People tend to get a red hot temper in hotter weather. Common sense causality disputes this correlation to the mere fact that warmer weather encourages people to socialise and drink, creating more opportunity for altercations.
Pommy’s – the term Pommy is short for pomegranate. The bright red of pomegranate was a close approximation for the colour Brits turned when ‘visiting the colonies’. Expect more sunburn this summer. Perhaps it’s time to invest in sunscreen companies…