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Long-term swings and seasonality in energy markets

Manuel Moreno, Alfonso Novales () and Federico Platania
Additional contact information
Manuel Moreno: Department of Economic Analysis and Finance, University of Castilla-La Mancha, Toledo, Spain.
Federico Platania: Léonard de Vinci Pôle Universitaire, Paris La Défense, France.

No 2019-29, Documentos de Trabajo del ICAE from Universidad Complutense de Madrid, Facultad de Ciencias Económicas y Empresariales, Instituto Complutense de Análisis Económico

Abstract: This paper introduces a two-factor continuous-time model for commodity pricing under the assump- tion that prices revert to a stochastic mean level, which shows smooth, periodic fluctuations over long periods of time. We represent the mean reversion price by a Fourier series with a stochastic component. We also consider a seasonal component in the price level, an essential characteristic of many commodity prices, which we represent again by a Fourier series. We obtain analytical pricing expressions for futures contracts. Using futures price data on Natural Gas, we provide evidence on the presence of long-term fluctuations and show how to estimate the long-term component si- multaneously with a seasonal component using the Kalman filter. We analyse the in-sample and out-of-sample empirical performance of our pricing model with and without a seasonal component and compare it with the Schwartz and Smith (2000) model. Our findings show the in-sample and out-of-sample superiority of our model with seasonal fluctuations, thereby providing a simple and powerful tool for portfolio management, risk management, and derivative pricing.

Keywords: Finance; Energy Markets; Seasonality; Long-term swings; Kalman filter. (search for similar items in EconPapers)
Pages: 36 pages
Date: 2019-09
New Economics Papers: this item is included in nep-ene
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