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Cross Hedging Within A Log Mean Reverting Model

Author

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  • SAMUEL NJOH

    (Université de Marne-La-Vallée, Cité Descartes, 5, Bld Descartes, Champs-Sur-Marne, F-77454 Marne-La-Valle Cedex 2, France)

Abstract

We hedge options on electricity spot prices by cross hedging, i.e., by using another financial asset. We calculate hedging strategies by quadratic minimization and local risk minimization. In our model of energy markets, we have done a deep study of no arbitrage and of the existence of martingale measures with square integrable density. Then we have established tools for efficient hedges. Nevertheless, we have clearly proved possible limitations of the expiry of options with quadratic criteria.

Suggested Citation

  • Samuel Njoh, 2007. "Cross Hedging Within A Log Mean Reverting Model," International Journal of Theoretical and Applied Finance (IJTAF), World Scientific Publishing Co. Pte. Ltd., vol. 10(05), pages 887-914.
    • Handle: RePEc:wsi:ijtafx:v:10:y:2007:i:05:n:s0219024907004457
    DOI: 10.1142/S0219024907004457
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    References listed on IDEAS

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    1. Christian Gourieroux & Jean Paul Laurent & Huyên Pham, 1998. "Mean‐Variance Hedging and Numéraire," Mathematical Finance, Wiley Blackwell, vol. 8(3), pages 179-200, July.
    2. Gary W. Emery & Qingfeng (Wilson) Liu, 2002. "An analysis of the relationship between electricity and natural‐gas futures prices," Journal of Futures Markets, John Wiley & Sons, Ltd., vol. 22(2), pages 95-122, February.
    3. David Heath & Eckhard Platen & Martin Schweizer, 2001. "A Comparison of Two Quadratic Approaches to Hedging in Incomplete Markets," Mathematical Finance, Wiley Blackwell, vol. 11(4), pages 385-413, October.
    4. Woo, Chi-Keung & Horowitz, Ira & Hoang, Khoa, 2001. "Cross hedging and forward-contract pricing of electricity," Energy Economics, Elsevier, vol. 23(1), pages 1-15, January.
    5. Vicky Henderson, 2002. "Valuation Of Claims On Nontraded Assets Using Utility Maximization," Mathematical Finance, Wiley Blackwell, vol. 12(4), pages 351-373, October.
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