TY - JOUR
T1 - Modelling the joint behaviour of electricity prices in interconnected markets
AU - Christensen, Troels Sønderby
AU - Benth, Fred Espen
N1 - Publisher Copyright:
© 2020 Informa UK Limited, trading as Taylor & Francis Group.
PY - 2020/9/1
Y1 - 2020/9/1
N2 - The liberalization of energy markets worldwide during recent decades has introduced severe implications for the price formation in these markets. Especially within the European day-ahead electricity markets, increased physical connections between different market areas and a joint effort on optimizing the aggregate social welfare have led to highly connected markets. Consequently, observing the exact same hourly day-ahead prices for two or more interconnected electricity markets in Europe happens frequently. This affects the modelling of such prices and in turn the valuation of derivatives written on prices from these market areas. In this paper, we propose a joint model for day-ahead electricity prices in interconnected markets composed of a combination of transformed Ornstein–Uhlenbeck processes. We discuss the properties of the model and propose an estimation procedure based on filtering techniques. Furthermore, the properties of the model reveal that analytical prices are attainable for, e.g., forwards and spread options.
AB - The liberalization of energy markets worldwide during recent decades has introduced severe implications for the price formation in these markets. Especially within the European day-ahead electricity markets, increased physical connections between different market areas and a joint effort on optimizing the aggregate social welfare have led to highly connected markets. Consequently, observing the exact same hourly day-ahead prices for two or more interconnected electricity markets in Europe happens frequently. This affects the modelling of such prices and in turn the valuation of derivatives written on prices from these market areas. In this paper, we propose a joint model for day-ahead electricity prices in interconnected markets composed of a combination of transformed Ornstein–Uhlenbeck processes. We discuss the properties of the model and propose an estimation procedure based on filtering techniques. Furthermore, the properties of the model reveal that analytical prices are attainable for, e.g., forwards and spread options.
KW - Day-ahead electricity prices
KW - Derivative pricing
KW - Interconnected markets
KW - Stochastic modelling
UR - http://www.scopus.com/inward/record.url?scp=85083666935&partnerID=8YFLogxK
U2 - 10.1080/14697688.2020.1733059
DO - 10.1080/14697688.2020.1733059
M3 - Journal article
AN - SCOPUS:85083666935
SN - 1469-7688
VL - 20
SP - 1441
EP - 1456
JO - Quantitative Finance
JF - Quantitative Finance
IS - 9
ER -