Electricity prices are known to be very volatile and subject to frequent jumps due to system breakdown, demand shocks, and inelastic supply. As many international electricity markets are in some state of deregulation, more and more participants in these markets are exposed to these stylised facts. Appropriate pricing, portfolio, and risk management models should incorporate these facts. Authors have introduced stochastic jump processes to deal with the jumps, but we argue and show that this specification might lead to problems with identifying the true mean-reversion within the process. Instead, we propose using a regime jump model that disentangles mean-reversion from jump behaviour. This model resembles more closely the true price path of electricity prices.

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Erasmus Research Institute of Management
ERIM Report Series Research in Management
Erasmus Research Institute of Management

Huisman, R, & Mahieu, R.J. (2001). Regime Jumps in Electricity Prices (No. ERS-2001-48-F&A). ERIM Report Series Research in Management. Erasmus Research Institute of Management. Retrieved from http://hdl.handle.net/1765/111