STORAGE OPTIONS VALUATION USING MULTILEVEL TREES AND CALENDAR SPREADS

Mihaela Manoliu ()
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Mihaela Manoliu: SunGard Energy Systems, Analytics, 825 Third Ave, New York, NY 10022, USA

International Journal of Theoretical and Applied Finance (IJTAF), 2004, vol. 07, issue 04, 425-464

Abstract: We present a detailed description of storage options valuation using a multilevel tree methodology which takes into account both the stochastic evolution of the energy commodity price underlying the storage contract or asset, as well as the storage facility operational constraints. We derive also a quasi-analytical solution for the storage value as a strip of calendar spread options, which is applicable when the storage constraints are ignored. The two valuation methodologies are applied within the framework of a one-factor and a two-factor diffusion model for the commodity price. As an interesting example of a path-dependent option with American exercise style, we take a look at the storage option injection and withdrawal exercise price boundaries and examine how these exercise decision boundaries are influenced by variations in the model's input parameters. We provide numerical results illustrating the dependence of the storage option value on the price model parameters, and interpret the observed parameter dependence using the calendar spreads formula as a useful analysis tool. We analyze and present numerical results regarding the dependence of the option value on the storage operational parameters.

Keywords: Storage option; calendar spread option; tree models; path dependence (search for similar items in EconPapers)
Date: 2004
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Citations: View citations in EconPapers (12)

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DOI: 10.1142/S0219024904002517

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