Forward curves, scarcity and price volatility in oil and natural gas markets

Abstract

The role of inventory in explaining the shape of the forward curve and spot price volatility in commodity markets is central in the theory of storage developed by Kaldor (1939) and Working (1949) and has since been documented in a vast body of financial literature, including the seminal paper by Fama and French (1987) on metals. The goal of this paper is twofold: i) validate in the case of oil and natural gas the use of the slope of the forward curve as a proxy for inventory; in contrast to Fama and French however, our slope is defined in order to filter out seasonality. ii) analyze directly for these two major commodities the relationship between inventory and price volatility. In agreement with the theory of storage, we find the negative correlation to be significant during those periods when the inventory is below the historical average (scarcity). Our results are illustrated by the analysis of a 20 year-database of US oil and natural gas prices and inventory.Forward Curves, Scarcity and Price Volatility in Oil and Natural Gas Markets 03/10/07

Futures Basis, Inventory and Commodity Price Volatility: An Empirical Analysis

“…Also, in line with evidence in Geman and Ohana (2009), who used a slightly shorter sample period (1993)(1994)(1995)(1996)(1997)(1998)(1999)(2000)(2001)(2002)(2003)(2004)(2005)(2006), we find that the petroleum stock in OECD countries is a stronger measure for oil inventories in terms of explanatory power (having a higher R 2 coefficient). Moreover, the coefficient estimates for global inventories in respect of corn, soybeans and wheat are all highly significant at the 1% level and their corresponding t-statistics are higher than those of US inventories.…”

“…Surprisingly given the sensitivity of its prices to storage levels, the coefficient of natural gas is insignificant. However, the empirical evidence in Geman and Ohana (2009) suggests that the negative inventory-volatility relationship for natural gas is mainly observed during periods of low inventory (or equivalently, high scarcity), e.g. during winter.…”

“…They do not examine the link between inventory and volatility in detail as we do. Also, Geman and Ohana (2009) examine the relationship between inventory and the adjusted futures spread in the oil and natural gas markets, using end-of-month inventory data. The present paper adds to the evidence of the aforementioned studies by thoroughly analyzing the link between real inventories and the slope of the forward curve at several different maturities whereas previous research has only examined the short end of the curve.…”

Theory of storage, inventory and volatility in the LME base metals

“…Further evidence to support the Working curve has been found over the years in a range of commodities, such as heating oil, copper and lumber (Pindyck 1994), soybeans (Geman and Nguyen 2005) and crude oil and natural gas (Geman and Ohana 2009). Convenience yield is usually said not to exist in the case of electricity, due to its non-storability.…”

A two-factor cointegrated commodity price model with an application to spread option pricing

“…2 A statistical study on the seasonal variability of energy commodity prices can be found in Manoliu and Tompaidis (2002), Borovkova and Geman (2006), Geman and Ohana (2009), among others. While not directly relevant for the pricing of options on (commodity) futures (as pointed out by ), a deterministic seasonal component may impact on model estimation (as pointed out by Lo and Wang (1995) and ), and hence indirectly on option prices.…”