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Pricing Of Exotic Energy Derivatives Based On Arithmetic Spot Models

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  • FRED ESPEN BENTH

    ()
    (Centre of Mathematics for Applications (CMA), University of Oslo, P.O. Box 1053, Blindern, N0316 Oslo, Norway)

  • RODWELL KUFAKUNESU

    ()
    (University of Pretoria, Department of Mathematics and Applied Mathematics, Pretoria 0002, South Africa)

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    Abstract

    Based on a non-Gaussian Ornstein–Uhlenbeck model for energy spot, we derive prices for Asian and spread options using Fourier techniques. The option prices are expressed in terms of the Fourier transform of the payoff function and the characteristic functions of the driving noises, being independent increment processes. In many relevant situations, these functions are explicitly available, and fast Fourier transform can be used for efficient numerical valuation. The arithmetic nature of our model implies that only a one-dimensional Fourier transform is required in the computation of the price, contrary to geometric models where transformation along both underlying variables is necessary.

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    Bibliographic Info

    Article provided by World Scientific Publishing Co. Pte. Ltd. in its journal International Journal of Theoretical and Applied Finance.

    Volume (Year): 12 (2009)
    Issue (Month): 04 ()
    Pages: 491-506

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    Handle: RePEc:wsi:ijtafx:v:12:y:2009:i:04:p:491-506

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    Related research

    Keywords: Energy markets; spread options; Asian options; fast Fourier transform; non-Gaussian Ornstein–Uhlenbeck processes; independent increment processes;

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    Cited by:
    1. Benth, Fred Espen & Kiesel, Rüdiger & Nazarova, Anna, 2012. "A critical empirical study of three electricity spot price models," Energy Economics, Elsevier, vol. 34(5), pages 1589-1616.
    2. Álvaro Cartea & Carlos González-Pedraz, 2010. "How much should we pay for interconnecting electricity markets? A real options approach," Business Economics Working Papers wb103206, Universidad Carlos III, Departamento de Economía de la Empresa.

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