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Natural Gas-Fired Power Plants Valuation And Optimization Under Lévy Copulas And Regime Switching

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  • NEMAT SAFAROV

    (Mathematics Department, Imperial College London, London SW7 2AZ, UK)

  • COLIN ATKINSON

    (Mathematics Department, Imperial College London, London SW7 2AZ, UK)

Abstract

In this work, we analyze a stochastic control problem for the valuation of a natural gas power station while taking into account operating characteristics. Both electricity and gas spot price processes exhibit mean-reverting spikes and Markov regime-switches. The Lévy regime-switching model incorporates the effects of demand-supply fluctuations in energy markets and abrupt economic disruptions or business cycles. We make use of skewed Lévy copulas to model the dependence risk of electricity and gas jumps. The corresponding coupled Hamilton–Jacobi–Bellman (HJB) equations are solved by an explicit finite difference method. The numerical approach gives us both the value of the plant and its optimal operating strategy depending on the gas and electricity prices, current temperature of the boiler and time. The surfaces of control strategies and contract values are obtained by implementing the numerical method for a particular example.

Suggested Citation

  • Nemat Safarov & Colin Atkinson, 2017. "Natural Gas-Fired Power Plants Valuation And Optimization Under Lévy Copulas And Regime Switching," International Journal of Theoretical and Applied Finance (IJTAF), World Scientific Publishing Co. Pte. Ltd., vol. 20(01), pages 1-38, February.
    • Handle: RePEc:wsi:ijtafx:v:20:y:2017:i:01:n:s0219024917500042
    DOI: 10.1142/S0219024917500042
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    Cited by:

    1. Ernstsen, Rune Ramsdal & Boomsma, Trine Krogh, 2018. "Valuation of power plants," European Journal of Operational Research, Elsevier, vol. 266(3), pages 1153-1174.

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