It stands for cooling degree days; a term that refers to the maximum of zero and the amount by which the daily average temperature exceeds 65 Fahrenheit. In other words, a CDD is the number of degrees by which the day’s average temperature is a above a base temperature. Mathematically, it is calculated as follows:
Daily CDD= Max (0, daily average temperature – base temperature)
where base temperature is the pre-set temperature, 65 degrees Fahrenheit, but sometimes 75 in warmer climates.
The average temperature is simply the average of the highest and lowest temperatures (calculated midnight to midnight). When daily temperature is greater than 65 F, people begin using air conditioning to cool their houses and offices. The index of monthly values of cooling degree days is usually used to determine the price of weather derivatives that trade in summer. In other words, to determine the settlement price for a weather derivative, CDD values for a specific month are added up and the sum is multiplied by US$ 20.
For example, if average temperature is 77F, then the CDD value is 77- 65= 12. The CDD value for the month is then:
CDD = 13 x 30 = 390
Finally, the settlement value for the weather derivative contract for that month would be: 390 x US$ 20= US$7800. The CDD measurement is commonly used in the energy market to determine the degree of weather coolness for a particular region. It is usually used in estimating electricity power consumption.
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