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Integrated EUA and CER price modeling and application for spread option pricing

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  • Pauline Barrieu
  • Max Fehr

Abstract

In this paper we propose a market consistent futures price dynamics model for cap-andtrade schemes, designed in the spirit of the European Union�s Emissions Trading Scheme(EU ETS). Historical price dynamics for the EU ETS suggest that, both, European emission Allowances (EUAs) and Certified Emission Reductions (CERs), certificates, which are generated through the Clean Development Mechanism (CDM) - a non-domestic offset mechanism - are significantly related. We use an equilibrium framework to demonstrate that compliance regulation singles out special joint futures price dynamics. Based on this esult we propose an arbitrage free futures price model and apply it to the pricing of spread options between EUAs and CERs.

Suggested Citation

  • Pauline Barrieu & Max Fehr, 2011. "Integrated EUA and CER price modeling and application for spread option pricing," GRI Working Papers 40, Grantham Research Institute on Climate Change and the Environment.
  • Handle: RePEc:lsg:lsgwps:wp40
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    File URL: http://www.lse.ac.uk/GranthamInstitute/wp-content/uploads/2014/02/eua-cer-price-modelling_Barrieu-etal.pdf
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    References listed on IDEAS

    as
    1. Cronshaw, Mark B & Brown-Kruse, Jamie, 1996. "Regulated Firms in Pollution Permit Markets with Banking," Journal of Regulatory Economics, Springer, vol. 9(2), pages 179-189, March.
    2. repec:dau:papers:123456789/2267 is not listed on IDEAS
    3. Rubin, Jonathan D., 1996. "A Model of Intertemporal Emission Trading, Banking, and Borrowing," Journal of Environmental Economics and Management, Elsevier, vol. 31(3), pages 269-286, November.
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    Cited by:

    1. Nazifi, Fatemeh, 2013. "Modelling the price spread between EUA and CER carbon prices," Energy Policy, Elsevier, vol. 56(C), pages 434-445.
    2. Bertrand, Vincent, 2014. "Carbon and energy prices under uncertainty: A theoretical analysis of fuel switching with heterogenous power plants," Resource and Energy Economics, Elsevier, vol. 38(C), pages 198-220.

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