Oil market modelling: A comparative analysis of fundamental and latent factor approaches

Mark Cummins, Michael Dowling and Fearghal Kearney

International Review of Financial Analysis, 2016, vol. 46, issue C, 211-218

Abstract: We formally compare fundamental factor and latent factor approaches to oil price modelling. Fundamental modelling has a long history in seeking to understand oil price movements, while latent factor modelling has a more recent and limited history, but has gained popularity in other financial markets. The two approaches, though competing, have not formally been compared as to effectiveness. For a range of short- medium- and long-dated WTI oil futures we test a recently proposed five-factor fundamental model and a Principal Component Analysis latent factor model. Our findings demonstrate that there is no discernible difference between the two techniques in a dynamic setting. We conclude that this infers some advantages in adopting the latent factor approach due to the difficulty in determining a well specified fundamental model.

Keywords: Oil futures; Fundamental models; Latent factors; Vuong model comparison (search for similar items in EconPapers)
JEL-codes: C32 G13 Q41 (search for similar items in EconPapers)
Date: 2016
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Citations: View citations in EconPapers (5)

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Working Paper: Oil market modelling: A comparative analysis of fundamental and latent factor approaches (2016)
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Persistent link: https://EconPapers.repec.org/RePEc:eee:finana:v:46:y:2016:i:c:p:211-218

DOI: 10.1016/j.irfa.2016.05.010

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