Static Hedging of Weather and Price Risks in Electricity Markets

Javier Pantoja Robayo and Juan C. Vera
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Javier Pantoja Robayo: School of Economics and Finance, Universidad EAFIT. Medellin, Colombia
Juan C. Vera: Tilburg School of Economics and Management, Tilburg University, The Netherlands

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Abstract: We present the closed-form solution to the problem of hedging price and quantity risks for energy retailers (ER), using financial instruments based on electricity price and weather indexes. Our model considers an ER who is intermediary in a regulated electricity market. ERs buy a fixed quantity of electricity at a variable cost and must serve a variable demand at a fixed cost. Thus ERs are subject to both price and quantity risks. To hedge such risks, an ER could construct a portfolio of financial instruments based on price and weather indexes. We construct the closed form solution for the optimal portfolio for the mean-Var model in the discrete setting. Our model does not make any distributional assumption.

Date: 2020-11
New Economics Papers: this item is included in nep-ene, nep-env, nep-reg and nep-rmg
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Persistent link: https://EconPapers.repec.org/RePEc:arx:papers:2011.08620

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