Keywords: Electricity Forwards, stochastic volatility, time-continuous model, equilibrium pricing, Kalman filtering.
Published in:
Publication year: 2001

Based on the peculiarities of electricity as underlying commodity of forward contracts we develop a time-continuous pricing model for short-term electricity forwards. The suggested stochastic volatility model utilizes the non-tradeable spot prices of electricity and its variance rate as state variables. This enables us to capture the non-linearities, and the high and time varying volatility seen in electricity prices. Using maximum likelihood estimation based on Kalman filtering we report empirical results on electricity data from the Californian market.