ABSTRACT
A thorough understanding of the stochastic price dynamics is necessary for the purposes of risk management and derivative pricing. A stochastic spot price model has been developed in order to evaluate standard and off-standard products in the electrical market and for the optimisation of power production in pumped storage hydro parks. The spot price model is built up in several steps and calibration is carried out based on the price distribution curves of spot prices and the log returns of forward contracts as well as standard option contracts over several delivery periods. The stochastic spot price multi-period models are calibrated so that calculated option prices for monthly, quarterly and annual contracts fall within the quoted bid–ask spread. This chapter focuses on the calibration of data for German electricity prices on the European Energy Exchange, but it can readily be adapted to any other market.
