Market Price Volatility Research Articles

The economics of producing biodiesel from algae

Biodiesel is an alternative fuel for conventional diesel that is made from natural plant oils, animal fats, and waste cooking oils. This paper discusses the economics of producing biodiesel fuel from algae grown in open ponds. There is potential for large-scale production of biodiesel from algal farms on non-arable land; however, previous studies have failed to demonstrate an economically viable process that could be scalable to a commercialized industry. The problems include inconsistent and insufficient algal productivities, uncertain capital and operating costs, volatile market prices and unknown levels of government support. Although intensive work is being done on many technological issues, the economic studies and data are incomplete and out of date. This paper presents an updated financial analysis of the production and economic conditions that could have a profound effect on the success of this important alternative fuel production process.

Simulation of Transaction Behavior and Price Volatility in Chinese Soybean Futures Market Using MVAR Model

Traditional vector autoregressive (VAR) modeling theory has the defect that it can not effectively utilize the multiple time scale information contained in the inner of variables. In order to discuss multiscale behavior among economic variables and capture variables’ information in different time scale, multiresolution VAR model which can also be called as MVAR model has been established in the paper by combining multiscale analysis and theory of VAR modeling to overcome the defect of traditional model, which can also capture the relationship between variables in different time scale in detail. Taking soybean futures on Dalian Commodity Exchange for example, the paper studies the relationship between transaction behavior of agricultural futures investors and volatility of futures price using MVAR model.

Supply response and price volatility in the Greek broiler market

AbstractThe authors examine the supply response of the Greek broiler market. A generalized autoregressive conditional heteroskedasticity (GARCH) process is used to estimate expected price and price volatility; price and supply equations are estimated jointly. In addition to the standard GARCH model, several different symmetric, asymmetric, and nonlinear GARCH models are estimated. These models use different conditional variance specifications (linear or nonlinear) to grasp some additional empirical regularity of data like asymmetry. Asymmetric price volatility means that different volatility is recorded in the case of a fall in prices than an increase in prices by the same amount. The possible existence of asymmetry in the producer's price volatility gives useful information about market structure and possible market power. The empirical results indicate that among the estimated GARCH models the nonlinear asymmetric GARCH model (NAGARCH) seems to better describe producers' price volatility of the Greek broiler industry. Furthermore, the empirical findings show that price volatility is an important risk factor and broiler feed price is the most significant cost factor of the supply response function. Finally, the model provides forecasts for quantity supplied, producers' price, and price volatility. [EconLit. Classifications: Q110, C510, D200]. © 2010 Wiley Periodicals, Inc.

Effect of Financial Hedging in Portfolio Selection in Electricity Markets

With the development of electricity markets, trading scheduling with risk management becomes more and more important for Generation Companies (Gencos) to protect themselves from the risk of extreme price volatility in the spot market. This paper investigates the effect of two financial instruments (ie, futures contracts and financial transmission rights) in trading scheduling based on the principles of the Modern Portfolio Theory and hedging. Historical data of the PJM electricity market are used to demonstrate the proposed approach to energy allocation. Simulation results indicate that futures contracts and financial transmission rights can reduce the risk of spot and bilateral transaction, respectively, and therefore affect physical trading in these two markets to some extent.

Market Belief, Trading Volume, Price Volatility, and Illiquidity

Market Belief, Trading Volume, Price Volatility, and Illiquidity

Rise of the Machines: Algorithmic Trading in the Foreign Exchange Market

We study the impact that algorithmic trading, computers directly interfacing at high frequency with trading platforms, has had on price discovery and volatility in the foreign exchange market. Our dataset represents a majority of global interdealer trading in three major currency pairs in 2006 and 2007. Importantly, it contains precise observations of the size and the direction of the computer-generated and human-generated trades each minute. The empirical analysis provides several important insights. First, we find evidence that algorithmic trades tend to be correlated, suggesting that the algorithmic strategies used in the market are not as diverse as those used by non-algorithmic traders. Second, we find that, despite the apparent correlation of algorithmic trades, there is no evident causal relationship between algorithmic trading and increased exchange rate volatility. If anything, the presence of more algorithmic trading is associated with lower volatility. Third, we show that even though some algorithmic traders appear to restrict their activity in the minute following macroeconomic data releases, algorithmic traders increase their provision of liquidity over the hour following each release. Fourth, we find that non-algorithmic order flow accounts for a larger share of the variance in exchange rate returns than does algorithmic order flow. Fifth, we find evidence that supports the recent literature that proposes to depart from the prevalent assumption that liquidity providers in limit order books are passive.

The Impact of an increasing share of RES-E on the Conventional Power Market — The Example of Germany

The intermittency of wind power has a decreasing effect on day-ahead spot prices. Data from Germany illustrate this effect and explain the underlying relationships. This short-term price effect leads to an adaptation process in the conventional generation capacity mix. In the long-run, a higher peak load plant share is required to cope with the increasing volatility of the residual demand. The result is an adapted merit-order. This merit-order intersects with an increasingly volatile residual demand curve and leads to a higher price volatility in the power market, which is going to trigger further adaptations. Therefore this article concludes with a list of open research questions, which can be derived from the illustrated relationship. These research questions should be investigated as soon as possible in order to induce the required adaptations in time.

Ethanol plant investment using net present value and real options analyses

Abstract A real options analysis of entry–exit decisions for dry-grind corn ethanol plants is conducted to incorporate the impact of rising volatility in market prices. For a large plant, the estimated gross margins (ethanol price less corn price), in current dollars, that induce entry and exit were 0.35 US$ dm−3 and 0.03 US$ dm−3, respectively; nearly 207% (63%) above (below) their respective net present value estimates. Under baseline conditions, a large operating plant would become mothballed at 0.05 US$ dm−3 and reactivate if margins rebounded to 0.17 US$ dm−3. Growth in the variability of ethanol margins will lead to delays in new plant investments, as well as exits of currently operating facilities. To the extent that alternative renewable fuel technologies become viable, the model can be easily adapted to estimate and compare the results across alternative bioenergy investments.

Transaction Costs and Price Volatility: New Evidence from the Tokyo Stock Exchange

We investigate the volatility impacts of the full commission deregulation in Japan in October 1999, and find that the deregulation overall tends to significantly increase price volatility in the Japanese equity market, using alternative model specifications and control variables. This finding contrasts with previous evidence that implies a positive relation between transaction costs and price volatility, while consistent from the converse with the hypothesis proposed by Stiglitz (1989) and Summers and Summers (1989). Our results suggest that imposing higher transaction costs might still be a feasible policy tool for stabilizing the market by curbing short-term noise trading.

Generators' bidding behavior in the NYISO day-ahead wholesale electricity market

This paper proposes a statistical and econometric model to analyze the generators' bidding behavior in the NYISO day-ahead wholesale electricity market. The generator level bidding data show very strong persistence in generators' grouping choices over time. Using dynamic random effect ordered probit model, we find that persistence is characterized by positive state dependence and unobserved heterogeneity and state dependence is more important than unobserved heterogeneity. The finding of true state dependence suggests a scope for economic policy intervention. If NYISO can implement an effective policy to switch generators from higher price groups to lower price groups, the effect is likely to be lasting. As a result, the market price can be lowered in the long-run. Generators' offered capacity is estimated by a two-stage sample selection model. The estimated results show that generators in higher-priced groups tend to withhold their capacity strategically to push up market prices. It further confirms the importance of an effective policy to turn generators into lower price groups in order to mitigate unexpected price spikes. The simulated market prices based on our estimated aggregate supply curve can replicate most volatility of actual DA market prices. Applying our models to different demand assumptions, we find that demand conditions can affect market prices significantly. It validates the importance of introducing demand side management during the restructure of electricity industry.

Sensitivity Analysis of Asset Flow Differential Equations and Volatility Comparison of Two Related Variables

In this study, I apply forward sensitivity analysis to the dynamical system of nonlinear asset flow differential equations (AFDEs). I find that all parameters in AFDEs are needed and can be estimated from market prices and net asset values data. Moreover, the market price is the most fluctuating state variable, and the coefficient for the trend-based investor' sentiment is the dominant parameter. Furthermore, I define and compare the extreme value-based volatilities of market price and net asset value for closed-end funds. I find that the extreme value-based volatility of market price is higher than that of net asset value for the vast majority of closed-end funds for both overlapping and non-overlapping cases.

Hang Seng Index Futures Open Interest and its Relationship with the Cash Market

Taking large open positions in the Hang Seng Index (HSI) futures formed part of the strategy of speculators in the 1998 episode of speculative attacks on the Hong Kong dollar and stock markets. The open interest has risen in the past couple of years, at one point to a record high level in the latter part of 2004. This note considers whether this should be a concern, and how such information can be assessed. Given the complexity of the futures market, it is difficult to construct a structural model to explain the level of open interest. Instead, this note attempts to extract useful information from available financial statistics, which may help shed light on the issue. This is achieved by examining the relevant statistical content of data on open interest and the historical relationship between open interest and other financial variables. Specifically, open interest is found to exhibit an upward trend since early 2001. It has a long run positive relationship with turnover in the cash market and the feedback between these two variables seems to run in both directions. On the other hand, no clear statistical relationship between the open interest and the short selling turnover, the price volatility in cash market, and the HSI level can be identified. Two adjusted open interest indicators - the detrended open interest position and the ratio of open interest to cash market turnover - are developed to facilitate assessing market conditions. In particular, these two indicators were found to be high in the last four months of 2004, but not as alarming as the raw data of open interest would suggest. These indicators will be monitored on a regular basis. Nevertheless, in view of the lack of a structural model, the role of market intelligence in assessing market developments remains critical.

Credit Crunch, Creditor Protection, and Asset Prices

In a Tobin's model with productivity and liquidity shocks, we study the mechanism through which strong creditor protection increases the level and lowers the volatility of stock market prices. There are two channels at work: (1) the Tobin's value under a credit crunch regime increases with creditor protection; and, (2) the probability of a credit crunch falls for given stochastic processes of underlying shocks when creditor protection improves. We test these predictions by using cross-country panel regressions of the stock market price level and volatility, in 40 countries, over the period from 1984 to 2004, at annual frequency. We create indicators for liquidity shocks based on quantity and price measures. Estimated probabilities of big shocks to liquidity are used as forecasts of credit crunch. We find broad empirical support for the hypothesis that creditor protection increases the stock market price level and reduces its volatility directly and via its negative effect on the probability of credit crunch. Our empirical findings are robust to multiple specifications.

Analysis of nash-cournot equilibrium for electricity markets considering option contracts

Option contract is one of the most important instruments for power generators developing bidding strategies and hedging market risk. Based on the peculiarities of bid-based-pool (BBP) power markets, a joint two-stage Cournot equilibrium model for option and spot markets is developed, and analytical formulas for market equilibrium are derived using a backward induction method. The impacts of option contract on efficiency of electricity markets and the behaviors of strategic generators are analyzed. The results show that strategic generators will voluntarily participate in strategic option contracting, and the existence of option contract accelerates the degree of competitive intensity in electricity markets and mitigates the market power abuse of generators to a large extent. In order to retain high spot market price and stable revenues, generators are interested in holding extremely high volatility of spot market price.

Modeling Volatility in Prediction Markets

Nowadays, there is a significant experimental evidence of excellent ex-post predictive accuracy in certain types of prediction markets, such as markets for elections. This evidence shows that prediction markets are efficient mechanisms for aggregating information and are more accurate in forecasting events than traditional forecasting methods, such as polls. Interpretation of prediction market prices as probabilities has been extensively studied in the literature, however little attention so far has been given to understanding volatility of prediction market prices. In this paper, we present a model of a prediction market with a binary payoff on a competitive event involving two parties. In our model, each party has some underlying process that describes its ability to win and evolves as an Ito diffusion. We show that if the prediction market for this event is efficient and accurate, the price of the corresponding contract will also follow a diffusion and its instantaneous volatility is a particular function of the current claim price and its time to expiration. We generalize our results to competitive events involving more than two parties and show that volatilities of prediction market contracts for such events are again functions of the current claim prices and the time to expiration, as well as of several additional parameters (ternary correlations of the underlying Brownian motions). In the experimental section, we validate our model on a set of InTrade prediction markets and show that it is consistent with observed volatilities of contract returns and outperforms the well-known GARCH model in predicting future contract volatility from historical price data. To demonstrate the practical value of our model, we apply it to pricing options on prediction market contracts, such as those recently introduced by InTrade. Other potential applications of this model include detection of significant market moves and improving forecast standard errors.

Deep-Value Investing, Fundamental Risks, and the Margin of Safety

This article shows a value-oriented investor how to determine the margin of safety that she should demand. In addition to market price volatility, the model identifies three sources of fundamental risk: 1) risk that interim news may necessitate revision of an initial valuation estimate before profits can be taken; 2) uncertainty over the reliability of a value estimate; and 3) uncertainty over when market price will converge to the investor9s value estimate. The model indicates that, while investors should demand margins of safety that are typically 10% to 25% of the share price, larger margins are justified for especially risky stocks. <b>TOPICS:</b>Risk management, security analysis and valuation, exchanges/markets/clearinghouses

A Cross-Country Model for the Influence of the Pre-Trade Transparency on Market Liquidity and Price Volatility

In this article, we examine how the pre-trade transparency (PTT), a specific market microstructure feature, affects the liquidity and the price volatility of a stock exchange. In particular, we estimate a system of simultaneous equations for a set of liquidity and volatility indicators as a function of the PTT, given a series of control variables. Our main finding is that transparency increases liquidity and reduces volatility, and this is coherent with part of the existing literature. Moreover, the analysis provides empirical evidence of a series of liquidity—volatility interconnections. <b>TOPICS:</b>Volatility measures, exchanges/markets/clearinghouses, global

CAN INDONESIA TRUST THE WORLD RICE MARKET?

Geography suggests that Indonesia will continue as a net rice importer for the foreseeable future, because it is an island nation without dominant river deltas providing abundant water and flat land suitable for rice growing. Yet policy makers remain reluctant to use the world rice market to achieve domestic food security goals for at least two reasons. First, there is concern that trade policies of other countries create a heavily distorted world market price. Second, there is fear of world market price volatility. It is argued here that distortions in the segment of the international market relevant to Indonesia are relatively small, and that world rice prices are considerably more stable now than during the 1970s world food crisis. Thus, the fear of price distortion and volatility appears unfounded, and engaging fully with the world market is a much more viable alternative than it was 30 years ago.

Market Structure and Price Formation at Market Openings and Closings: Evidence from Nasdaq's Calls

Electronic call auctions are used globally to open and close equity market trading; as such, they are a critically important facility that needs to be better understood. The paper focuses on the impact NASDAQ’s calls (introduced in 2004) have had on bid-ask spreads, price volatility, and order routing in the continuous market that follows daily openings and which precedes daily closings. NASDAQ’s closing call has significantly reduced both spreads and volatility for all market capitalization groups. Its opening call similarly reduced spreads, while a generally similar, though somewhat weaker, pattern of volatility reduction was realized. Although the pattern of trading volume has, for the most part, not been significantly affected, our findings, comprehensively viewed, suggest that the calls have had a positive spillover effect on the dynamic behavior of price formation in NASDAQ’s continuous market.

Optimal Operation and Value Evaluation of Pumped Storage Power Plants Considering Spot Market Trading and Uncertainty of Bilateral Demand

In recent years, as the deregulation in electric power industry has advanced in many countries, a spot market trading of electricity has been done. Generation companies are allowed to purchase the electricity through the electric power market and supply electric power for their bilateral customers. Under this circumstance, it is important for the generation companies to procure the required electricity with cheaper cost to increase their profit.The market price is volatile since it is determined by bidding between buyer and seller. The pumped storage power plant, one of the storage facilities is promising against such volatile market price since it can produce a profit by purchasing electricity with lower-price and selling it with higher-price. This paper discusses the optimal operation of the pumped storage power plants considering bidding strategy to an uncertain spot market. The volatilities in market price and demand are represented by the Vasicek model in our estimation. This paper also discusses the allocation of operational reserve to the pumped storage power plant.