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Options introduction and volatility in the EU ETS

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Author Info

  • Julien Chevallier

    ()
    (Université Paris Dauphine)

  • Yannick Le Pen

    ()
    (Université Paris Dauphine)

  • Benoît Sévi

    ()
    (Université de la Méditerranée Aix-Marseille II)

Abstract

To improve risk management in the European Union Emissions Trading Scheme (EU ETS), the European Climate Exchange (ECX) has introduced option instruments in October 2006. The central question we address is: can we identify a potential destabilizing effect of the introduction of options on the underlying market (EUA futures)? Indeed, the literature on commodities futures suggest that the introduction of derivatives may either decrease (due to more market depth) or increase (due to more speculation) volatility. As the identification of these effects ultimately remains an empirical question, we use daily data from April 2005 to April 2008 to document volatility behavior in the EU ETS. By instrumenting various GARCH models, endogenous break tests, and rolling window estimations, our results overall suggest that the introduction of the option market had the effect of decreasing the level of volatility in the EU ETS while impacting its dynamics. These findings are fairly robust to other likely influences linked to energy and commodity markets.

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File URL: http://cec-repec.site11.com/RePEc/cec/wpaper/11-06_WP_2011-07_Chevallier_Le-Pen_Sevi.pdf
File Function: First version, 2011
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Bibliographic Info

Paper provided by Chaire Economie du Climat in its series Working Papers with number 1107.

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Length: 34 pages
Date of creation: Jun 2011
Date of revision:
Handle: RePEc:cec:wpaper:1107

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Web page: http://cec-repec.site11.com/
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Related research

Keywords: EU ETS; option prices; volatility; GARCH; rolling estimation; endogenous structural break detection;

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References

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Citations

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Cited by:
  1. Andrea Petrella & Sandro Sapio, 2010. "No PUN intended: A time series analysis of the Italian day-ahead electricity prices," RSCAS Working Papers 2010/03, European University Institute.
  2. Fagiani, Riccardo & Hakvoort, Rudi, 2014. "The role of regulatory uncertainty in certificate markets: A case study of the Swedish/Norwegian market," Energy Policy, Elsevier, vol. 65(C), pages 608-618.
  3. Marc Gronwald & Janina Ketterer & Stefan Trück, 2011. "The Dependence Structure between Carbon Emission Allowances and Financial Markets - A Copula Analysis," CESifo Working Paper Series 3418, CESifo Group Munich.
  4. Zhou, P. & Zhang, L. & Zhou, D.Q. & Xia, W.J., 2013. "Modeling economic performance of interprovincial CO2 emission reduction quota trading in China," Applied Energy, Elsevier, vol. 112(C), pages 1518-1528.
  5. Chevallier, Julien, 2013. "Variance risk-premia in CO2markets," Economics Papers from University Paris Dauphine 123456789/11713, Paris Dauphine University.

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