An Equilibrium Model for Commodity Prices with Regime Switching Reserve Dynamics

33 Pages Posted: 22 Mar 2014

Date Written: March 11, 2014

Abstract

We explore the implications for asset prices and implied volatilities in an equilibrium model of commodity production. Production of the commodity can be carried out in one of two regimes. In the first regime the reserves are set in constant decline while in the second regime new additions to the reserve base are made. The optimal production rule is to switch regime when the stochastic revenue process of the producer hits certain barrier values. As a consequence of the optimal production rule equilibrium spot prices also become regime switching. The shapes of forward curves and implied volatilities are strongly dependent on the level of the stochastic revenue process.

Keywords: Equilibrium, Commodity, Optimal switching

JEL Classification: Q30, Q40, G11, G13, M11, C61, C41, C44

Suggested Citation

Larsson, Karl, An Equilibrium Model for Commodity Prices with Regime Switching Reserve Dynamics (March 11, 2014). Available at SSRN: https://ssrn.com/abstract=2372626 or http://dx.doi.org/10.2139/ssrn.2372626

Karl Larsson (Contact Author)

Statistics Sweden ( email )

Karlav├Ągen 100
Stockholm
Sweden

Register to save articles to
your library

Register

Paper statistics

Downloads
27
Abstract Views
283
PlumX Metrics