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Hedging Expected Losses on Derivatives in Electricity Futures Markets

Author

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  • Adrien Nguyen Huu

    (FiME Lab, IMPA)

  • Nadia Oudjane

    (FiME Lab)

Abstract

We investigate the problem of pricing and hedging derivatives of Electricity Futures contract when the underlying asset is not available. We propose to use a cross hedging strategy based on the Futures contract covering the larger delivery period. A quick overview of market data shows a basis risk for this market incompleteness. For that purpose we formulate the pricing problem in a stochastic target form along the lines of Bouchard and al. (2008), with a moment loss function. Following the same techniques as in the latter, we avoid to demonstrate the uniqueness of the value function by comparison arguments and explore convex duality methods to provide a semi-explicit solution to the problem. We then propose numerical results to support the new hedging strategy and compare our method to the Black-Scholes naive approach.

Suggested Citation

  • Adrien Nguyen Huu & Nadia Oudjane, 2014. "Hedging Expected Losses on Derivatives in Electricity Futures Markets," Papers 1401.8271, arXiv.org.
    • Handle: RePEc:arx:papers:1401.8271
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    References listed on IDEAS

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    2. Hans FÃllmer & Peter Leukert, 2000. "Efficient hedging: Cost versus shortfall risk," Finance and Stochastics, Springer, vol. 4(2), pages 117-146.
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    6. Ludovic Moreau, 2011. "Stochastic target problems with controlled loss in jump diffusion models," Post-Print hal-00515522, HAL.
    7. Bruno Bouchard & Marcel Nutz, 2011. "Weak Dynamic Programming for Generalized State Constraints," Papers 1105.0745, arXiv.org, revised Oct 2012.
    8. Lindell, Andreas & Raab, Mikael, 2009. "Strips of hourly power options--Approximate hedging using average-based forward contracts," Energy Economics, Elsevier, vol. 31(3), pages 348-355, May.
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    Cited by:

    1. Kharroubi Idris & Langrené Nicolas & Pham Huyên, 2014. "A numerical algorithm for fully nonlinear HJB equations: An approach by control randomization," Monte Carlo Methods and Applications, De Gruyter, vol. 20(2), pages 145-165, June.
    2. Idris Kharroubi & Nicolas Langrené & Huyên Pham, 2013. "A numerical algorithm for fully nonlinear HJB equations: an approach by control randomization," Working Papers hal-00905899, HAL.
    3. Idris Kharroubi & Nicolas Langren'e & Huy^en Pham, 2013. "A numerical algorithm for fully nonlinear HJB equations: an approach by control randomization," Papers 1311.4503, arXiv.org.

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