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Estimating risk for the carbon market via extreme value theory: An empirical analysis of the EU ETS

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  • Zhen-Hua Feng
  • Yi-Ming Wei

    () (Center for Energy and Environmental Policy Research (CEEP), Beijing Institute of Technology)

  • Kai Wang

Abstract

With the rapid growth of the carbon market, carbon price fluctuations are increasingly important for market participants. Carbon market risk directly affects the investor confidence and emission reduction results. In the present study, extreme value theory (EVT) is used to analyze risk exposure for carbon price and to measure the Value at Risk (VaR) for the carbon market. GARCH models are applied to establish a model of price volatility for the spot market and the futures market and to calculate dynamic VaR. Traditional VaR and VaR based on EVT are also compared. The results show that the downside risk is higher than the upside risk for the carbon market. Upside and downside risks are higher in the first phase (Jun 2005-Dec 2007) than in the second phase (Feb 2008-Dec 2009) for both the spot and futures markets. Upside and downside risks are similar for the spot and futures markets during the same phase. The results also show that the EVT VaR is more effective than the traditional method, which can reduce the risks for market participants. Dynamic VaR based on GARCH and EVT can effectively measure the EU ETS market risk.

Suggested Citation

  • Zhen-Hua Feng & Yi-Ming Wei & Kai Wang, 2011. "Estimating risk for the carbon market via extreme value theory: An empirical analysis of the EU ETS," CEEP-BIT Working Papers 19, Center for Energy and Environmental Policy Research (CEEP), Beijing Institute of Technology.
  • Handle: RePEc:biw:wpaper:19
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    File URL: http://ceep.bit.edu.cn/docs/2018-10/20181011134716530246.pdf
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    3. Herrera, Rodrigo & González, Nicolás, 2014. "The modeling and forecasting of extreme events in electricity spot markets," International Journal of Forecasting, Elsevier, vol. 30(3), pages 477-490.
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    More about this item

    Keywords

    EU ETS; VaR; GARCH; EVT; Carbon price; Risk measurement;

    JEL classification:

    • Q58 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - Environmental Economics - - - Environmental Economics: Government Policy
    • C13 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Estimation: General

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