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Pricing swing options in the electricity markets under regime-switching uncertainty. (English) Zbl 1210.91125
Summary: The spot price market for electricity is highly volatile. The time series of the daily average electricity price is characterised by seasonality, mean reversion, jumps, and regime-switching processes. In electricity markets, ’swing’ contracts, which can provide some protection against the day-to-day price fluctuations, are used to incorporate flexibility in acquiring given quantities of electricity. We develop a lattice approach for the valuation of swing options by modelling the daily average price of electricity by a regime-switching process that utilises three regimes, consisting of Brownian motions and a mean-reverting process. Various numerical examples are presented to illustrate the methodology.

91G10 Portfolio theory
91G99 Actuarial science and mathematical finance
91G60 Numerical methods (including Monte Carlo methods)
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