Energy markets: crucial relationship between prices
Cristina Bencivenga, Giulia Sargenti, and Rita L. D’EcclesiaAbstract.This study investigates the relationship between crude oil, natural gas and electricity
prices. A possible integration may exist and it can be measured using a cointegration approach.
The relationship between energy commodities may have several implications for the pricing of
derivative products and for risk management purposes. Using daily price data for Brent crude
oil, NBP UK natural gas and EEX electricity we analyse the short- and long-run relationship
between these markets. An unconditional correlation analysis is performed to study the short-
term relationship, which appears to be very unstable and dominated by noise. A long-run
relationship is analysed using the Engle-Granger cointegration framework. Our results indicate
that gas, oil and electricity markets are integrated. The framework used allows us to identify a
short-run relationship.Key words:energy commodities, correlation, cointegation, market integration1 Introduction
Energy commodities have been a leading actor in the economic and financial scene in
the last decade. The deregulation of electricity and gas markets in western countries
caused a serious change in the dynamic of electricity and gas prices and necessitated
the adoption of adequate risk management strategies. The crude oil market has also
been also experiencing serious changes over the last decade caused by economic
and political factors. The deregulation of gas and electricity markets should cause,
among other things, more efficient price formation of these commodities. However
their dependence on oil prices is still crucial. An analysis of how these commodities
are related to each other represents a milestone in the definition of risk measurement
and management tools.
For years natural gas and refined petroleum products have been used as close
substitutes in power generation and industry. As a consequence, movements of natural
gas prices have generally tracked those of crude oil. This broughtacademics and
practitioners to use a simple rule of thumb to relate natural gas prices to crude oil
prices according to which a simple deterministic function may be able to explain the
relationships between them (see, e.g., [7]). Recently the number of facilities able toM. Corazza et al. (eds.), Mathematical and Statistical Methodsfor Actuarial Sciencesand Finance
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