The real options content of oil producer stocks

Andrew Carver and Matthew Ennis

Applied Financial Economics, 2011, vol. 21, issue 4, 217-231

Abstract: Oil producers may have options to expand or abandon their operations, the exercise of which depends on prevailing oil prices and production costs. These embedded options suggest that the equity of oil production firms may resemble options on oil. This article examines whether options of various strike prices and maturity dates replicate the daily changes in oil producers' stock prices. We find that oil producer stocks resemble options contracts and that implied strike prices are related to production costs. Large integrated oil companies have implied strikes ranging from $10 to $35 per barrel, while higher production cost Canadian oil sands producers have implied strikes of $35-$60 per barrel. The results provide insights to investors interested in either understanding producers' exposure to oil or designing a trading strategy to take advantage of the gamma provided by oil producer optionality.

Date: 2011
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DOI: 10.1080/09603107.2010.528362

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