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Price Formation and Optimal Trading in Intraday Electricity Markets with a Major Player
Article

The Effect of Mean-Reverting Processes in the Pricing of Options in the Energy Market: An Arithmetic Approach

by 1,*,† and 2,†
1
Center for Mathematical Economics, Bielefeld University, 33615 Bielefeld, Germany
2
Independent Researcher, 51065 Cologne, Germany
*
Author to whom correspondence should be addressed.
These authors contributed equally to this work.
Academic Editor: Fred Espen Benth
Received: 5 April 2021 / Revised: 1 May 2021 / Accepted: 7 May 2021 / Published: 18 May 2021
(This article belongs to the Special Issue Stochastic Modeling and Pricing in Energy Markets)
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. View Full-Text
Keywords: electricity spot prices; multi-scale mean reversion; pricing error; jumps; delivery period; swaps electricity spot prices; multi-scale mean reversion; pricing error; jumps; delivery period; swaps
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MDPI and ACS Style

Schmeck, M.D.; Schwerin, S. The Effect of Mean-Reverting Processes in the Pricing of Options in the Energy Market: An Arithmetic Approach. Risks 2021, 9, 100. https://0-doi-org.brum.beds.ac.uk/10.3390/risks9050100

AMA Style

Schmeck MD, Schwerin S. The Effect of Mean-Reverting Processes in the Pricing of Options in the Energy Market: An Arithmetic Approach. Risks. 2021; 9(5):100. https://0-doi-org.brum.beds.ac.uk/10.3390/risks9050100

Chicago/Turabian Style

Schmeck, Maren D., and Stefan Schwerin. 2021. "The Effect of Mean-Reverting Processes in the Pricing of Options in the Energy Market: An Arithmetic Approach" Risks 9, no. 5: 100. https://0-doi-org.brum.beds.ac.uk/10.3390/risks9050100

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