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Risk premium in the era of shale oil

Author

Listed:
  • Fabrizio Ferriani

    () (Bank of Italy)

  • Filippo Natoli

    () (Bank of Italy)

  • Giovanni Veronese

    () (Bank of Italy)

  • Federica Zeni

    () (Bank of Italy)

Abstract

The boom in the production of shale oil in the United States has triggered a structural transformation of the oil market. We show, both theoretically and empirically, that this process has significant consequences for oil risk premium. We construct a model based on shale producers interacting with financial speculators in the futures market. Compared to conventional oil, shale oil technology is more flexible, but producers have higher risk aversion and face additional costs due to their reliance on external finance. Our model helps to explain the observed pattern of aggregate hedging by US oil companies in the last decade. The empirical analysis shows that the hedging pressure of shale producers has become more important than that of conventional producers in explaining the oil futures risk premium.

Suggested Citation

  • Fabrizio Ferriani & Filippo Natoli & Giovanni Veronese & Federica Zeni, 2019. "Risk premium in the era of shale oil," Temi di discussione (Economic working papers) 1215, Bank of Italy, Economic Research and International Relations Area.
  • Handle: RePEc:bdi:wptemi:td_1215_19
    as

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    File URL: http://www.bancaditalia.it/pubblicazioni/temi-discussione/2019/2019-1215/en_tema_1215.pdf
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    References listed on IDEAS

    as
    1. Belu Mănescu, Cristiana & Nuño, Galo, 2015. "Quantitative effects of the shale oil revolution," Energy Policy, Elsevier, vol. 86(C), pages 855-866.
    2. repec:eee:jocoma:v:8:y:2017:i:c:p:1-17 is not listed on IDEAS
    3. Hilde C. Bjørnland & Frode Martin Nordvik & Maximilian Rohrer, 2017. "Supply Flexibility in the Shale Patch: Evidence from North Dakota," Working Papers No 2/2017, Centre for Applied Macro- and Petroleum economics (CAMP), BI Norwegian Business School.
    4. Erik Gilje & Robert Ready & Nikolai Roussanov, 2016. "Fracking, Drilling, and Asset Pricing: Estimating the Economic Benefits of the Shale Revolution," NBER Working Papers 22914, National Bureau of Economic Research, Inc.
    5. Richard G. Newell & Brian C. Prest, 2017. "The Unconventional Oil Supply Boom: Aggregate Price Response from Microdata," NBER Working Papers 23973, National Bureau of Economic Research, Inc.
    6. Tufano, Peter, 1996. " Who Manages Risk? An Empirical Examination of Risk Management Practices in the Gold Mining Industry," Journal of Finance, American Finance Association, vol. 51(4), pages 1097-1137, September.
    7. David Hirshleifer, 1988. "Residual Risk, Trading Costs, and Commodity Futures Risk Premia," Review of Financial Studies, Society for Financial Studies, vol. 1(2), pages 173-193.
    8. Steven N. Kaplan & Luigi Zingales, 1997. "Do Investment-Cash Flow Sensitivities Provide Useful Measures of Financing Constraints?," The Quarterly Journal of Economics, Oxford University Press, vol. 112(1), pages 169-215.
    Full references (including those not matched with items on IDEAS)

    More about this item

    Keywords

    shale oil; futures; risk premium; hedging; speculation; limits to arbitrage.;

    JEL classification:

    • G00 - Financial Economics - - General - - - General
    • G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • Q43 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - Energy - - - Energy and the Macroeconomy

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