Capturing the power options smile by an additive two-factor model for overlapping futures prices

Marco Piccirilli, Maren Diane Schmeck and Tiziano Vargiolu
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Marco Piccirilli: Center for Mathematical Economics, Bielefeld University
Maren Diane Schmeck: Center for Mathematical Economics, Bielefeld University

No 625, Center for Mathematical Economics Working Papers from Center for Mathematical Economics, Bielefeld University

Abstract: In this paper we introduce an additive two-factor model for electricity futures prices based on Normal Inverse Gaussian Lévy processes, that fulfills a no-overlapping-arbitrage (NOA) condition. We compute European option prices by Fourier transform methods, introduce a specific calibration procedure that takes into account no-arbitrage constraints and fit the model to power option settlement prices of the European Energy Exchange (EEX). We show that our model is able to reproduce the different levels and shapes of the implied volatility (IV) profiles displayed by options with a variety of delivery periods.

Keywords: Volatility Smile; Overlapping Delivery Periods; Arbitrage; Additive Models; Power Options; FFT (search for similar items in EconPapers)
Pages: 34
Date: 2019-10-07
New Economics Papers: this item is included in nep-ene
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https://pub.uni-bielefeld.de/download/2937756/2937757 First Version, 2019 (application/pdf)

Related works:
Journal Article: Capturing the power options smile by an additive two-factor model for overlapping futures prices (2021)
Working Paper: Capturing the power options smile by an additive two-factor model for overlapping futures prices (2019)
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Persistent link: https://EconPapers.repec.org/RePEc:bie:wpaper:625

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