Heating Degree Day - HDD

The number of degrees that a day's average temperature is below 65^o Fahrenheit (18^o Celsius), the temperature below which buildings need to be heated. The price of weather derivatives traded in the winter is based on an index made up of monthly HDD values. The settlement price for a weather futures contract is calculated by summing HDD values for a month and multiplying that sum by $20.

To calculate HDD, take the average of a day's high and low temperatures and subtract from 65. For example, if the day's average temperature is 50^o F, its HDD is 15. If every day in a 30-day month had an average temperature of 50^o F, the month's HDD value would be 450 (15 x 30). The nominal settlement value for this month's weather derivative contract would therefore be $9,000 (450 x $20).