Course outline

Outline – day 1

Session 1: European gas markets, storages and contract structures

• Overview European gas markets and trading hubs
• Traditional use of flexibility instruments in a portfolio:
  • Seasonal: summer – winter demand variations
  • Peak shaving
  • Typical injection/release patterns
• Overview of gas storage assets:
  • Overview of European gas storages
  • Primary parameters: Injection, withdrawal, working gas volume
  • Pricing of storages in the German market
• Overview of swing / Take-or-Pay contracts
• Variable contract volume, with Take-or-Pay constraints
• Annual and other period constraints
• Indexed strike prices with monthly lagging and averaging
• Hard and soft penalties for violation of constraints
• Carry-Forward and Make-Up rights

Session 2: Storage valuation: Trading forwards in a dynamic hedging strategy

• Overview valuation approaches to physical and financial storage
• Understanding the forward curve: interaction between storage costs and forward prices
• Forward curve building: from a curve of tradable contracts to a smooth daily ‘expected’ curve
• Understanding intrinsic value:
  • Daily intrinsic, monthly intrinsic or tradable intrinsic
  • Incorporation of liquidity and trading costs
  • Impact of storage constraints
• Developing a cash-flow valuation model for a storage investment
• Rolling intrinsic valuation: comparison of different ‘rolling’ strategies
• A storage as a basket of time-spreads

Forward curve modeling and simulation

• Forward curve dynamics:
  • Spot versus forward price dynamics
  • The volatility term structure
  • Elements of a multi-factor model: short-term, long-term and winter-summer spread uncertainties
• Correlation and co-integration between gas and oil prices
• Implications for the valuation of gas contracts with indexed strike prices

Outline – day two   

Session 3: Option valuation of storage and swing

Gas price dynamics (focus on spot)

• Short intro option theory and real options in energy markets
• Primary price dynamics in natural gas markets
• Volatility levels and estimation procedures for spot and forward prices
  • Historical versus implied volatility
  • Moving average and Exponentially Moving Average volatility
• Mean reversion rate: definition and estimation approaches
  • What history to use for mean-reversion and volatility?
  • Seasonal patterns in volatility and mean-reversion

Option valuation of storage and Take-or-Pay contracts

• The tree approach for valuation of an American-style option:
  • Setting up the tree consistent with market volatility
  • Backward induction
  • Forward valuation
• The least-squares Monte Carlo approach for valuation of an American-style option
  • Similarity with tree approach
  • Benefits of simulations
  • Extension of this approach to storage and swing valuation

Session 4: Practical application of valuation and trading concepts

• Comparing intrinsic value with rolling intrinsic and full option value
• Trading strategy assumptions behind the different valuations
  • Impact of market liquidity constraints
  • Impact of uncertainty about volatility and mean-reversion
  • Interpreting the delta hedges
• Guidelines for setting up a backtest
  • Impact of changing volatility, forward curve shapes and mean-reversion over time
  • Comparing initial values with realized values
  • Comparing ‘optimal’ storage injections/withdrawals with actual operator behavior

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