Journal of Energy Markets

For the first issue of this year, the papers in The Journal of Energy Markets span a range of important topics in which the journal has been establishing substantial research impact. They cover electricity, gas and oil markets, together with the interaction of energy commodities and international capital markets.

In our first paper, "A method of forecasting wholesale electricity market prices" by J. Maisano, A. Radchik and I. Skryabin, the authors adapt a fundamental principle of classical mechanics known as the least-action principle to model the complex relationship between expected load and expected price in electricity spot markets. They focus on markets that feature a centralized electricity dispatch system that optimizes grid parameters to determine minimum spot nodal prices. Using the example of the Australian National Electricity Market and a calibrated stochastic demand model, they develop a mathematical approach that determines the price evolution, including intraday and seasonal features. The demand-price relationship is complex, and it includes generator constraints such as maximum limits and ramping rates.

The second paper in the issue also involves operational details. In "Ex post payoffs of a tolling agreement for natural gas-fired generation in Texas",Yun Liu, Chi-Keung Woo and Jay Zarnikau explore the problem of insufficient investment incentives for natural gas-fired generation in the Electricity Reliability Council of Texas (ERCOT) market. They use a large sample of over 134 000 fifteen-minute observations in the fifty-six-month period of 2011-14 to estimate the effects of several fundamental drivers on the ex post payoffs of three hypothetical tolling agreements by heat rates. The assumed heat rates reflect those of a new combined cycle gas turbine, a new combustion turbine and an old combustion turbine. The fundamental drivers are postulated to be the natural gas price, regional loads, nuclear generation and wind generation. They find that rising natural gas price and non-West regional loads tend to increase the agreements' ex post payoffs. These payoff increases, however, were reduced by rising West regional loads, nuclear generation and wind generation. In addition, the authors find a substantial payoff decline due to large-scale wind generation development in Texas, lending support to the recommendation for ERCOT's transition from an energy-only market to an energy-and-capacity market.

The issue's third paper, by Akbar Shahmoradi and Anatoliy Swishchuk, returns to a common theme in this journal: option pricing in energy derivatives. In "Pricing crude oil options using Lévy processes" the authors compare jump diffusion, variance gamma and other models for the distribution of crude oil returns, where fat tails and skewness are common features. They use the fractional fast Fourier transform to calibrate parameters in an optimization setup, using European-style options data on crude oil futures from the New York Mercantile Exchange for a settlement date in 2015. The results indicate that these Lévy processes have very good out-of-sample results compared with benchmarks.

Finally, in "A dynamic conditional correlation between commodities and the Islamic stock market", Tarek Chebbi and Abdelkader Derbali focus on the dynamics of the correlations between commodities and Islamic indexes. From a methodological viewpoint they examine the approaches of EC-GARCH and DCC-GARCH, over 2010-14. Their empirical evidence supports the view that the volatilities of commodity returns are strongly correlated with those of Islamic indexes, but that they are time varying. This paper contributes importantly to the empirical literature dealing with the links between commodity and stock markets and to the very topical theme of the "financialization" of commodity markets.

Derek W. Bunn
London Business School