Modeling the Price Dynamics of Co2 Emission Allowances

Benz, Eva A.; Trück, Stefan

doi:10.2139/ssrn.903240

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Modeling the Price Dynamics of Co2 Emission Allowances

33 Pages Posted: 19 May 2006 Last revised: 4 Mar 2008

See all articles by Eva A. Benz

Eva A. Benz

University of Bonn - Bonn Graduate School of Economics

Macquarie University Sydney - Department of Applied Finance and Actuarial Studies; Financial Research Network (FIRN); Centre for International Finance and Regulation (CIFR); Macquarie University, Macquarie Business School

Date Written: February 20, 2008

Abstract

In this paper we analyze the short-term spot price behavior of carbon dioxide (CO2) emission allowances of the new EU-wide CO2 emissions trading system (EU-ETS). After reviewing the stylized facts of this new class of assets we investigate several approaches for modeling the returns of emission allowances. Due to the different phases of price and volatility behavior in the returns, we suggest the use of Markov switching and AR-GARCH models for stochastic modeling. We examine the approaches by conducting an in-sample and out-of-sample forecasting analysis and by comparing the results to alternative approaches. Our findings strongly support the adequacy of the models capturing characteristics like skewness, excess kurtosis and in particular different phases of volatility behavior in the returns.

Keywords: CO2 Emission Allowances, Emissions Trading, Spot Price Modeling, Regime-Switching Models

JEL Classification: C22, Q43, C51

Suggested Citation: Suggested Citation

Benz, Eva A. and Trueck, Stefan, Modeling the Price Dynamics of Co2 Emission Allowances (February 20, 2008). Available at SSRN: https://ssrn.com/abstract=903240 or http://dx.doi.org/10.2139/ssrn.903240