An empirical study of hedging in the nordic power market

Abstract

Due to the deregulation of electricity, the market for the trading of power has increased considerably over the last twenty years. In this period, prices for electricity have proven to be very volatile, so in an attempt to manage risk and handle the volatility of electricity prices, firms are increasing their focus on risk management. An important part of risk management is the use of derivative markets to hedge a firm’s risk exposure. In this thesis, we look at some of the traditional hedging strategies. The first strategy involves determination of whether it is possible to minimise the variance of a portfolio through the theory of optimal hedge ratio. We also study the returns from various future and forward contracts designed to hedge the same obligation. The market where this study is conducted is the Nordic power market Nord Pool. This market is one of the longest-standing deregulated markets for electricity trading. We use historical data available from Nord Pool to perform the analysis in this thesis