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Valuation of Real Options in Crude Oil Production

Author

Listed:
  • Luis Mª Abadie

    (Basque Centre for Climate Change, Sede Building 1, 1st Floor, Scientific Campus, University of the Basque Country, 48940 Leioa, Spain)

  • José M. Chamorro

    (Department of Financial Economics II and Institute of Public Economics, University of the Basque Country, Av. Lehendakari Aguirre 83, 48015 Bilbao, Spain)

Abstract

Oil producers are going through a hard period. They have a number of real options at their disposal. This paper addresses the valuation of two of them: the option to delay investment and the option to abandon a producing field. A prerequisite for this is to determine the value of a producing well. For this purpose we draw on a stochastic model of oil price with three risk factors: spot price, long-term price, and spot price volatility. This model is estimated with spot and futures West Texas Intermediate (WTI) oil prices. The numerical estimates of the underlying parameters allow calculate the value of a producing well over a fixed time horizon. We delineate the optimal boundary that separates the investment region from the wait region in the spot price/unit cost space. We similarly draw the boundary governing the optimal exercise of the option to abandon and the one governing the active/inactive production decision when there is no such option.

Suggested Citation

  • Luis Mª Abadie & José M. Chamorro, 2017. "Valuation of Real Options in Crude Oil Production," Energies, MDPI, vol. 10(8), pages 1-21, August.
    • Handle: RePEc:gam:jeners:v:10:y:2017:i:8:p:1218-:d:108655
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    References listed on IDEAS

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    Cited by:

    1. Maitham A. Rodhan, 2023. "The Effect of US Shale Oil Production on Local and International Oil Markets," International Journal of Energy Economics and Policy, Econjournals, vol. 13(4), pages 433-443, July.
    2. Samuel D. Barrows, 2020. "Did the US Shale Oil Revolution Ruin Oil Industry Stock Market Returns?," International Journal of Energy Economics and Policy, Econjournals, vol. 10(4), pages 1-8.
    3. Joanna Goard & Mohammed AbaOud, 2023. "A Bimodal Model for Oil Prices," Mathematics, MDPI, vol. 11(10), pages 1-26, May.

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