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Title: The dynamics of a commodity market : implications for forward pricing
Author: Cavus, Mustafa
Awarding Body: University of Manchester
Current Institution: University of Manchester
Date of Award: 1999
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There is a growing menu of forward pricing models. Each model has a different specification regarding the nature of its underlying variables. This study critically evaluates, suggests extensions to and proposes alternative models. After reviewing the literature, we then investigate the dynamics of a market (in this study the WTI crude oil market) and based on these findings we specify the underlying stochastic processes of the model. Specifically, we perform series of econometric tests in attempting to pinpoint the nature of the variables; our focus is on the spot price, the convenience yield, and the long-term price of oil. We conclude that both the spot price and the convenience yield follow mean reverting patterns whereas the long-term price of oil is not a stationary process. We also find that there is a strong interaction between these three variables. The current models in the literature either neglect some fundamental dynamics or do not correctly specify the functional form of the underlying processes. For example, Gibson and Schwartz (1990) mis-specify the functional form followed by the spot price, Gabillon (1991) neglects the stochastic nature of the convenience yield. In this study, we suggest a model which is consistent with the empirical findings in the crude oil market. In particular, we provide a framework that is able to incorporate the dynamics of the crude oil market. We derive various closed form solutions and one general solution that is rich enough to incorporate solutions to all present forward pricing models. We also suggest quasi closed-form solutions for the stochastic volatility problem in forward pricing, a notion which has not been mentioned in the literature. We then compare the performance of the alternative models in fitting the term structure of actual oil forward prices. Our results support the hypothesis that a model incorporating the underlying dynamics of a market outperforms models that suffer from specification problems.
Supervisor: Paxson Dean Sponsor: Not available
Qualification Name: Thesis (Ph.D.) Qualification Level: Doctoral
EThOS ID:  DOI: Not available