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A Convenience Yield Approximation Model for Mean‐Reverting Commodities

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  • Engelbert J. Dockner
  • Zehra Eksi
  • Margarethe Rammerstorfer

Abstract

Standard option‐based approximations for convenience yields make use of the assumption that commodity spot prices follow a geometric Brownian motion. While there is some empirical support for this assumption, prices of a wide variety of (agricultural) commodities mean revert. Using a mean‐reverting spot price process we derive a novel convenience yield approximation analytically. It corresponds to the difference between the present values of two floating‐strike Asian options written on the spot and the futures prices, respectively. Using natural gas spot and futures price data from four different trading locations, we compare convenience yield estimates derived from existing approximations to those of our new measure. We find that convenience yield estimates vary substantially across approximation methods and that differences can be attributed to the cost of carry and the moneyness of the options. © 2014 Wiley Periodicals, Inc. Jrl Fut Mark 35:625–654, 2015

Suggested Citation

  • Engelbert J. Dockner & Zehra Eksi & Margarethe Rammerstorfer, 2015. "A Convenience Yield Approximation Model for Mean‐Reverting Commodities," Journal of Futures Markets, John Wiley & Sons, Ltd., vol. 35(7), pages 625-654, July.
    • Handle: RePEc:wly:jfutmk:v:35:y:2015:i:7:p:625-654
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    Cited by:

    1. Atle Oglend & Vesa-Heikki Soini, 2020. "Equilibrium Working Curves with Heterogeneous Agents," Computational Economics, Springer;Society for Computational Economics, vol. 56(2), pages 355-372, August.
    2. Fernandez, Viviana, 2020. "The predictive power of convenience yields," Resources Policy, Elsevier, vol. 65(C).
    3. Meng Han, 2023. "Commodity momentum and reversal: Do they exist, and if so, why?," Journal of Futures Markets, John Wiley & Sons, Ltd., vol. 43(9), pages 1204-1237, September.
    4. Fernandez, Viviana, 2017. "A historical perspective of the informational content of commodity futures," Resources Policy, Elsevier, vol. 51(C), pages 135-150.
    5. Tore S. Kleppe & Atle Oglend, 2019. "Can limits‐to‐arbitrage from bounded storage improve commodity term‐structure modeling?," Journal of Futures Markets, John Wiley & Sons, Ltd., vol. 39(7), pages 865-889, July.

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