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A Multivariate Commodity Analysis and Applications to Risk Management

Author

Listed:
  • Reik H. Boerger
  • Alvaro Cartea

    (Department of Economics, Mathematics & Statistics, Birkbeck)

  • Ruediger Kiesel
  • Gero Schindlmayr

Abstract

The understanding of joint asset return distributions is an important ingredient for managing risks of portfolios. While this is a well-discussed issue in fixed income and equity markets, it is a challenge for energy commodities. In this paper we are concerned with describing the joint return distribution of energy related commodities futures, namely power, oil, gas, coal and carbon. The objective of the paper is threefold. First, we conduct a careful analysis of empirical returns and show how the class of multivariate generalized hyperbolic distributions performs in this context. Second, we present how risk measures can be computed for commodity portfolios based on generalized hyperbolic assumptions. And finally, we discuss the implications of our findings for risk management analyzing the epxosure of power plants which represent typical energy portfolios. Our main findings are that risk estimates based on a normal distribution in the context of energy commodities can be statistically improved using generalized hyperbolic distributions. Those distributions are flexible enough to incorporate many characteristics of commodity returns and yield more accurate risk estimates. Our analysis of the market suggests that carbon allowances can be a helpful tool for controlling the risk exposure of a typical energy portfolio representing a power plant.

Suggested Citation

  • Reik H. Boerger & Alvaro Cartea & Ruediger Kiesel & Gero Schindlmayr, 2007. "A Multivariate Commodity Analysis and Applications to Risk Management," Birkbeck Working Papers in Economics and Finance 0709, Birkbeck, Department of Economics, Mathematics & Statistics.
  • Handle: RePEc:bbk:bbkefp:0709
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    File URL: http://www.bbk.ac.uk/ems/research/wp/PDF/BWPEF0709.pdf
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    References listed on IDEAS

    as
    1. Markus Burger & Bernhard Klar & Alfred Muller & Gero Schindlmayr, 2004. "A spot market model for pricing derivatives in electricity markets," Quantitative Finance, Taylor & Francis Journals, vol. 4(1), pages 109-122.
    2. Alvaro Cartea & Marcelo Figueroa, 2005. "Pricing in Electricity Markets: A Mean Reverting Jump Diffusion Model with Seasonality," Applied Mathematical Finance, Taylor & Francis Journals, vol. 12(4), pages 313-335.
    3. Cartea, Álvaro & Williams, Thomas, 2008. "UK gas markets: The market price of risk and applications to multiple interruptible supply contracts," Energy Economics, Elsevier, pages 829-846.
    4. Knittel, Christopher R. & Roberts, Michael R., 2005. "An empirical examination of restructured electricity prices," Energy Economics, Elsevier, vol. 27(5), pages 791-817, September.
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    1. repec:dau:papers:123456789/4598 is not listed on IDEAS
    2. Julien Chevallier & Benoît Sévi, 2011. "On the realized volatility of the ECX CO 2 emissions 2008 futures contract: distribution, dynamics and forecasting," Annals of Finance, Springer, pages 1-29.

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