International Oil Market Risk Anticipations and the Cushing Bottleneck: Option-Implied Evidence
43 Pages Posted: 21 Sep 2016 Last revised: 29 Jan 2022
Date Written: August 20, 2019
Abstract
This paper studies crude oil market integration and spillovers between Brent and WTI oil indexes over the 2006-2019 period. In addition to prices, we estimate time series of model-free option-implied moments to capture forward-looking market views and anticipations of different risk categories. We describe the WTI-Brent equilibrium relationship in prices and in risk expectations measured by implied volatility, skewness, and kurtosis. Using a fractional cointegration model, we find long memory in the price cointegrating vector and in implied moments, implying that persistence of shocks are an important feature of crude oil markets. The evidence supports a differential in implied volatility but not in prices, and suggests equilibrium fragmentation during the Cushing bottleneck period. Analysis of implied moments reveals that Brent and WTI risk anticipations generally share a common equilibrium. Unlike volatility, asymmetric and tail risks are more locally driven, especially during market disruptions such as the Cushing bottleneck, so there is potential for diversifying extreme risks using both indexes.
Keywords: Crude oil, Brent, WTI, spread, risk-neutral distribution, fractional cointegration, options
JEL Classification: G13, G14, Q4
Suggested Citation: Suggested Citation