Global weather volatility and futures trading

Attain Capital had a good blog entry on how to profit from global weather volatility, "The climate of volatility, investing and science". Attain concludes that the best way to exploit extreme weather is through managed futures or systematic funds. I agree, but want to add to the discussion through being more specific on why this would be the case. There are some simple reasons for why managed futures will do this better than other approaches when there is climate volatility. The arguments are straightforward.

• Managed futures is a long volatility strategy. 
• It will make money being either long or short
• Managed futures can be described as being long straddles.
•  It makes money at extremes.
• Climate change expects weather extremes. 
• More dispersion in weather patterns.
• Weather extremes lead to supply shocks.
•  The extremes places stress on commodities.
• Supply shocks create price extremes - disequilibrium events
• Weather stress which creates supply shocks which effects prices
• Commodity demand is inelastic making a supply shock stronger 
• Commodity supply is inelastic - dislocations cannot be solved immediately 
• Managed futures can exploits these shocks without any fundamental bias
• Focuses is on prices and their response to shocks 
• Managed futures divergence trading 
• Managed futures thrives on disequilibrium events 

The latest agriculture research suggests that the response of plants to weather extremes is non-linear. Plant stress is real, so a movement to the tails in weather will generally have a bigger impact on supply than what most will expect. However, there is a second condition that is necessary for price extremes, low stocks to use. If inventory levels are low, there is no buffer stocks to smooth prices through time. Models that skew position risk to those markets which have low stocks to use will potentially do better. 

The risks, of course, will be greater.

Market divergences is the reason why managed futures (systematic trading) has a place in the portfolio. Investors want to exploit any surprise price move, and systematic trend-following is the clearest mechanism for doing that. By its very nature a surprise will not be expected by the fundamental traders, so you need an approach that will not second guess prices.  Investors also need the systematic risk management that comes with managed futures. Managed futures allows traders to exploit opportunities in a controlled manner.