Variance Risk Premia in Energy Commodities
Journal of Derivatives, vol. 17, p. 15-32, 2010, https://doi.org/10.3905/jod.2010.17.3.015
Posted: 15 Jul 2008 Last revised: 21 May 2019
Date Written: July 15, 2008
Abstract
This paper investigates variance risk premia in energy commodities, particularly crude oil and natural gas, using a robust model-independent approach. Over a period of 11 years, we find that the average variance risk premia are negative for both energy commodities. Energy variance risk premia in dollar terms are time-varying, while energy variance risk premia in return terms, particularly in the case of natural gas, are more constant over time. Finally, the return profile of a natural gas variance swap resembles that of a call option, while the return profile of a crude oil variance swap, if anything, resembles the return profile of a put option. The annualized Sharpe ratios from shorting energy variance are sizable. Although not nearly as high as the annualized Sharpe ratio of shorting S&P 500 index variance, they are comparable to those of shorting interest rate volatility or variance on individual stocks.
Keywords: Crude oil, natural gas, stochastic variance, risk premia
JEL Classification: G13
Suggested Citation: Suggested Citation
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