A model for energy pricing with stochastic emission costs
Date
2009-07-23
Authors
Elliott, Robert J., author
Lyle, Matthew R., author
Miao, Hong, author
Energy Economics, publisher
Journal Title
Journal ISSN
Volume Title
Abstract
We use a supply-demand approach to value energy products exposed to emission cost uncertainty. We find closed form solutions for a number of popularly traded energy derivatives such as: forwards, European call options written on spot prices and European Call options written on forward contracts. Our modeling approach is to first construct noisy supply and demand processes and then equate them to find an equilibrium price. This approach is very general while still allowing for sensitivity analysis within a valuation setting. Our assumption is that, in the presence of emission costs, traditional supply growth will slow down causing output prices of energy products to become more costly over time. However, emission costs do not immediately cause output price appreciation, but instead expose individual projects, particularly those with high emission outputs, to much more extreme risks through the cost side of their profit stream. Our results have implications for hedging and pricing for producers operating in areas facing a stochastic emission cost environment.
Description
Includes bibliographical references (pages 42-44).
Published as: Energy Economics, vol.32, no. 4, pp.838-847, July 2010, https://doi.org/10.1016/j.eneco.2009.11.001.
Published as: Energy Economics, vol.32, no. 4, pp.838-847, July 2010, https://doi.org/10.1016/j.eneco.2009.11.001.
Rights Access
Subject
energy pricing
energy derivatives
emissions uncertainty
project valuation