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Risk premium, price of risk and expected volatility in the oil market: Evidence from survey data

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  • Prat, Georges
  • Uctum, Remzi

Abstract

This paper contributes to the literature on crude oil risk premiums by providing ex-ante measures of these premiums using survey oil price expectations over an extended period. These ex-ante premiums are uncorrelated with ex-post premiums commonly used in existing studies, whereas they are more relevant as they directly influence investors' decision-making. Utilizing a portfolio choice model, we explain the ex-ante premium as the product of the price of risk and the expected variance, both varying over time and across horizons. We estimate this relationship using a multivariate state-space framework. From our estimated risk prices we find, on average, that investors exhibit risk-seeking behaviour in the short term and risk aversion in the long term. It follows that the term structure of oil risk premiums are prominently upward-sloping. Additionally, consistent with the prospect theory, investors are found to be predominantly risk averse in a context of expected gains and risk-seeking in a context of expected losses. Finally, the dynamics of risk prices are shown to be driven by identifiable economic, financial, and oil market-related factors.

Suggested Citation

  • Prat, Georges & Uctum, Remzi, 2024. "Risk premium, price of risk and expected volatility in the oil market: Evidence from survey data," Energy Economics, Elsevier, vol. 140(C).
    • Handle: RePEc:eee:eneeco:v:140:y:2024:i:c:s0140988324006388
    DOI: 10.1016/j.eneco.2024.107930
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    More about this item

    Keywords

    Oil price expectations; Ex-ante oil risk premium; Survey data; Prospect theory;
    All these keywords.

    JEL classification:

    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • Q43 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - Energy - - - Energy and the Macroeconomy

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