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A Stochastic Oil Price Model For Optimal Hedging And Risk Management

Author

Listed:
  • TEEMU PENNANEN

    (Department of Mathematics, King’s College London, London WC2R 2LS, UK)

  • LUCIANE SBARAINI BONATTO

    (Department of Mathematics, King’s College London, London WC2R 2LS, UK)

Abstract

In this paper, we develop a stochastic model for future monthly spot prices of the most important crude oils and refined products. The model is easy to calibrate to both historical data and views of a user even in the presence of negative prices which have been observed recently. This makes it particularly useful for risk management and design of optimal hedging strategies in incomplete market situations where perfect hedging may be impossible or prohibitively expensive to implement. We illustrate the model with optimization of hedging strategies for refinery margins in illiquid markets using a portfolio of 12 most liquid derivative contracts with 12 maturities traded on New York Mercantile Exchange (NYMEX) and Intercontinental Exchange (ICE).

Suggested Citation

  • Teemu Pennanen & Luciane Sbaraini Bonatto, 2022. "A Stochastic Oil Price Model For Optimal Hedging And Risk Management," International Journal of Theoretical and Applied Finance (IJTAF), World Scientific Publishing Co. Pte. Ltd., vol. 25(02), pages 1-27, March.
    • Handle: RePEc:wsi:ijtafx:v:25:y:2022:i:02:n:s0219024922500091
    DOI: 10.1142/S0219024922500091
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