I - Introduction to Energy Commodities
Published online by Cambridge University Press: 05 June 2014
Summary
Energy has been traded in one form or another for centuries, with modern energy markets emerging at the launch of the NYMEX West Texas Intermediate (WTI) crude oil contract in 1983. Subsequent growth has been significant, with an expanding array of physical and financial instruments traded across almost all energy commodities. This evolution has been driven by a trend toward deregulation in markets such as natural gas and power that, until relatively recently, were essentially fully regulated. The past decade has also witnessed growing interest among institutional investors in energy, and commodities more broadly, as a new component of investment portfolios.
While the level of complexity of energy markets has increased rapidly, practitioners have often found themselves depending on analytical methods that were inherited directly from those used in other asset classes, often with only cosmetic modifications. Energy commodities, however, exhibit important differences from other markets, which at times imperil the validity of conventional approaches to valuation and hedging.
There are two basic features of energy that together result in price behavior that can be dramatically different from that of other asset classes. The first is that for a variety of reasons, including weather events and infrastructure failure, fluctuations in supply and demand for many energy commodities can change rapidly on daily or even hourly time scales. The second is that it costs real money to move a commodity through time or between locations.
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- Valuation and Risk Management in Energy Markets , pp. 1 - 2Publisher: Cambridge University PressPrint publication year: 2014