The Effect of Mean-Reverting Processes in the Pricing of Options in the Energy Market: An Arithmetic Approach
In this paper we study the effect that mean-reverting components in the arithmetic dynamics of electricity spot price have on the price of a call option on a swap. Our model allows for seasonal effects, spikes, and negative values of the price of electricity. We show that for sufficiently large deli...
| Main Authors: | , |
|---|---|
| Format: | Article |
| Language: | English |
| Published: |
MDPI AG
2021-05-01
|
| Series: | Risks |
| Subjects: | |
| Online Access: | https://www.mdpi.com/2227-9091/9/5/100 |
| _version_ | 1797533521985667072 |
|---|---|
| author | Maren Diane Schmeck Stefan Schwerin |
| author_facet | Maren Diane Schmeck Stefan Schwerin |
| author_sort | Maren Diane Schmeck |
| collection | DOAJ |
| description | In this paper we study the effect that mean-reverting components in the arithmetic dynamics of electricity spot price have on the price of a call option on a swap. Our model allows for seasonal effects, spikes, and negative values of the price of electricity. We show that for sufficiently large delivery periods of the swap contract, the error that one makes by neglecting some of the mean-reverting processes affecting the spot price evolution converges to zero. The decay rate is explicitly calculated. This is achieved by exploiting the additive structure of the electricity price process in order to determine an explicit closed-form formula for the price of the call on a swap. The theoretical analysis is then illustrated via a numerical example. |
| first_indexed | 2024-03-10T11:16:43Z |
| format | Article |
| id | doaj.art-05ff203e59bf4b0b8cf7804958c32759 |
| institution | Directory Open Access Journal |
| issn | 2227-9091 |
| language | English |
| last_indexed | 2024-03-10T11:16:43Z |
| publishDate | 2021-05-01 |
| publisher | MDPI AG |
| record_format | Article |
| series | Risks |
| spelling | doaj.art-05ff203e59bf4b0b8cf7804958c327592023-11-21T20:20:29ZengMDPI AGRisks2227-90912021-05-019510010.3390/risks9050100The Effect of Mean-Reverting Processes in the Pricing of Options in the Energy Market: An Arithmetic ApproachMaren Diane Schmeck0Stefan Schwerin1Center for Mathematical Economics, Bielefeld University, 33615 Bielefeld, GermanyIndependent Researcher, 51065 Cologne, GermanyIn this paper we study the effect that mean-reverting components in the arithmetic dynamics of electricity spot price have on the price of a call option on a swap. Our model allows for seasonal effects, spikes, and negative values of the price of electricity. We show that for sufficiently large delivery periods of the swap contract, the error that one makes by neglecting some of the mean-reverting processes affecting the spot price evolution converges to zero. The decay rate is explicitly calculated. This is achieved by exploiting the additive structure of the electricity price process in order to determine an explicit closed-form formula for the price of the call on a swap. The theoretical analysis is then illustrated via a numerical example.https://www.mdpi.com/2227-9091/9/5/100electricity spot pricesmulti-scale mean reversionpricing errorjumpsdelivery periodswaps |
| spellingShingle | Maren Diane Schmeck Stefan Schwerin The Effect of Mean-Reverting Processes in the Pricing of Options in the Energy Market: An Arithmetic Approach Risks electricity spot prices multi-scale mean reversion pricing error jumps delivery period swaps |
| title | The Effect of Mean-Reverting Processes in the Pricing of Options in the Energy Market: An Arithmetic Approach |
| title_full | The Effect of Mean-Reverting Processes in the Pricing of Options in the Energy Market: An Arithmetic Approach |
| title_fullStr | The Effect of Mean-Reverting Processes in the Pricing of Options in the Energy Market: An Arithmetic Approach |
| title_full_unstemmed | The Effect of Mean-Reverting Processes in the Pricing of Options in the Energy Market: An Arithmetic Approach |
| title_short | The Effect of Mean-Reverting Processes in the Pricing of Options in the Energy Market: An Arithmetic Approach |
| title_sort | effect of mean reverting processes in the pricing of options in the energy market an arithmetic approach |
| topic | electricity spot prices multi-scale mean reversion pricing error jumps delivery period swaps |
| url | https://www.mdpi.com/2227-9091/9/5/100 |
| work_keys_str_mv | AT marendianeschmeck theeffectofmeanrevertingprocessesinthepricingofoptionsintheenergymarketanarithmeticapproach AT stefanschwerin theeffectofmeanrevertingprocessesinthepricingofoptionsintheenergymarketanarithmeticapproach AT marendianeschmeck effectofmeanrevertingprocessesinthepricingofoptionsintheenergymarketanarithmeticapproach AT stefanschwerin effectofmeanrevertingprocessesinthepricingofoptionsintheenergymarketanarithmeticapproach |