Valuation of the Extension Option in Time Charter Contracts in the LNG Market

Sangseop Lim, Chang-hee Lee (), Won-Ju Lee, Junghwan Choi, Dongho Jung and Younghun Jeon
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Sangseop Lim: College of Maritime Sciences, Korea Maritime & Ocean University, Busan 49112, Korea
Chang-hee Lee: College of Maritime Sciences, Korea Maritime & Ocean University, Busan 49112, Korea
Won-Ju Lee: College of Maritime Sciences, Korea Maritime & Ocean University, Busan 49112, Korea
Junghwan Choi: Law School, Dalian Maritime University, No. 1 Liaoning Road, Dalian 116026, China
Dongho Jung: Offshore Platform Research Division, Korea Research Institute of Ship and Ocean Engineering (KRISO), Daejeon 34103, Korea
Younghun Jeon: Korea Marine Equipment Research Institute (KOMERI), Busan 46754, Korea

Energies, 2022, vol. 15, issue 18, 1-14

Abstract: A rapid transition toward a decarbonized economy is underway, following the Paris Agreement and the International Maritime Organization 2030 decarbonization goals. However, due to the high cost of the rapid transition to eco-friendly energy and the geopolitical conflict in eastern Europe, liquefied natural gas (LNG), which emits less carbon than other fossil fuels, is gaining popularity. As the spot market grows due to increased LNG demand, the usage of period extension options in time charter (T/C) contracts is increasing; however, these options are generally provided free of charge in practice, without economic evaluation; this is because some shipowners want to make their time charter contracts more attractive to the more credible charterers. Essentially, the reason for why this option has not been evaluated is because there is no reliable evaluation model currently used in practice. That is, research on the evaluation model for the T/C extension option has been insufficient. Therefore, this study evaluates the economic value of the extended period option in LNG time charter contracts using machine learning models, such as artificial neural networks, support vector machines, and random forest, and then compares them with the Black–Scholes model that is used for option valuations in financial markets. The results indicate superior valuation performance of the random forest model compared with the other models; particularly, its performance was significantly better than the Black–Scholes model. Since T/C extension options involve significant sums in the balance sheets of both shipowners and charterers, the fair value of these options should be assessed. In this regard, this paper has meaning in proposing valid machine models to efficiently reflect the fair value of period extension options that are provided at no charge in the LNG market.

Keywords: LNG market; time charter; period extension option; option valuation; machine learning; Black–Scholes (search for similar items in EconPapers)
JEL-codes: Q Q0 Q4 Q40 Q41 Q42 Q43 Q47 Q48 Q49 (search for similar items in EconPapers)
Date: 2022
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