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Storage Options Valuation Using Multilevel Trees And Calendar Spreads

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  • MIHAELA MANOLIU

    (SunGard Energy Systems, Analytics, 825 Third Ave, New York, NY 10022, USA)

Abstract

We present a detailed description of storage options valuation using a multilevel tree methodology which takes into account both the stochastic evolution of the energy commodity price underlying the storage contract or asset, as well as the storage facility operational constraints. We derive also a quasi-analytical solution for the storage value as a strip of calendar spread options, which is applicable when the storage constraints are ignored. The two valuation methodologies are applied within the framework of a one-factor and a two-factor diffusion model for the commodity price. As an interesting example of a path-dependent option with American exercise style, we take a look at the storage option injection and withdrawal exercise price boundaries and examine how these exercise decision boundaries are influenced by variations in the model's input parameters. We provide numerical results illustrating the dependence of the storage option value on the price model parameters, and interpret the observed parameter dependence using the calendar spreads formula as a useful analysis tool. We analyze and present numerical results regarding the dependence of the option value on the storage operational parameters.

Suggested Citation

  • Mihaela Manoliu, 2004. "Storage Options Valuation Using Multilevel Trees And Calendar Spreads," International Journal of Theoretical and Applied Finance (IJTAF), World Scientific Publishing Co. Pte. Ltd., vol. 7(04), pages 425-464.
    • Handle: RePEc:wsi:ijtafx:v:07:y:2004:i:04:n:s0219024904002517
    DOI: 10.1142/S0219024904002517
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    Citations

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    Cited by:

    1. Anna Maria Gambaro & Nicola Secomandi, 2021. "A Discussion of Non‐Gaussian Price Processes for Energy and Commodity Operations," Production and Operations Management, Production and Operations Management Society, vol. 30(1), pages 47-67, January.
    2. Cummins, Mark & Kiely, Greg & Murphy, Bernard, 2018. "Gas storage valuation under multifactor Lévy processes," Journal of Banking & Finance, Elsevier, vol. 95(C), pages 167-184.
    3. Nicola Secomandi, 2010. "Optimal Commodity Trading with a Capacitated Storage Asset," Management Science, INFORMS, vol. 56(3), pages 449-467, March.
    4. Felix, Bastian Joachim & Weber, Christoph, 2012. "Gas storage valuation applying numerically constructed recombining trees," European Journal of Operational Research, Elsevier, vol. 216(1), pages 178-187.
    5. Owen Q. Wu & Derek D. Wang & Zhenwei Qin, 2012. "Seasonal Energy Storage Operations with Limited Flexibility: The Price-Adjusted Rolling Intrinsic Policy," Manufacturing & Service Operations Management, INFORMS, vol. 14(3), pages 455-471, July.
    6. Matt Thompson & Matt Davison & Henning Rasmussen, 2009. "Natural gas storage valuation and optimization: A real options application," Naval Research Logistics (NRL), John Wiley & Sons, vol. 56(3), pages 226-238, April.
    7. Nicola Secomandi, 2015. "Merchant Commodity Storage Practice Revisited," Operations Research, INFORMS, vol. 63(5), pages 1131-1143, October.
    8. Bastian Felix, 2012. "Gas Storage Valuation: A Comparative Simulation Study," EWL Working Papers 1201, University of Duisburg-Essen, Chair for Management Science and Energy Economics, revised Apr 2014.
    9. Thompson, Matt, 2016. "Natural gas storage valuation, optimization, market and credit risk management," Journal of Commodity Markets, Elsevier, vol. 2(1), pages 26-44.
    10. Secomandi, Nicola, 2016. "A tutorial on portfolio-based control algorithms for merchant energy trading operations," Journal of Commodity Markets, Elsevier, vol. 4(1), pages 1-13.
    11. Secomandi, Nicola & Seppi, Duane J., 2014. "Real Options and Merchant Operations of Energy and Other Commodities," Foundations and Trends(R) in Technology, Information and Operations Management, now publishers, vol. 6(3-4), pages 161-331, July.
    12. Josh Gray & Konstantin Palamarchuk, 2010. "Calibration of One- and Two-Factor Models For Valuation of Energy Multi-Asset Derivative Contracts," Papers 1011.4547, arXiv.org.

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