A.B. Dorsman

Energy economics and financial markets

Foreword.- Introduction.- Part I: Supply and Demand.- Part II: Environmental Issues and Renewables.- Part III: The Dynamics of Energy and Derivatives Trading.- Part IV: Finance and Energy.

Adding oil to a portfolio of stocks and bonds

The work of Markowitz in the early 1950s triggered a revolution in the investment management world. The concept of efficient portfolios and efficient frontier gave an important impulse to the development of modern finance. Ever since, the concept of efficient portfolios has been widely applied in many environments. While originally restricted to stock markets, applications have been developed in the field of e.g. the optimisation of energy distribution (Letzelter 2005). In the last decade, asset managers look at the opportunity to improve their expected return-risk trade off by adding commodities to their portfolio of stocks and bonds. In this chapter we look at the contribution of oil to such a portfolio. The goal of this paper is to investigate if the addition of oil to an investment portfolio can improve an efficient set of traditional investments in stocks and bonds. We believe that given the counter cyclicality of oil returns compared to the stock market, that the inclusion of such assets should improve the risk-return trade-off. It appears that oil is not a safe haven for stockholders and bondholders. Oil is not a hedge for stockholders, but it does present a hedge for bondholders. When adding oil to the portfolio we see a change in efficient frontier and market portfolio. Holders of portfolios of bonds and stocks can improve their risk-return trade off by enlarging their portfolio with an investment in oil.

Market perfection in a changing energy environment

During the last decade of the twentieth century energy markets changed rapidly. National orientated electricity networks were more and more linked to each other. A large step was the coupling of the spot markets of Belgium, France and The Netherlands in 2006. The integration of markets is a continuing process with realization in 2010 of a market coupling between Central Western European region (CWE, consisting of Belgium, Germany, France, Luxemburg and Netherlands) and the Nordic region. In 2011 the United Kingdom will also be part of an enlarged area where market coupling is applied, expected to be followed by further extensions of the region with Southern- and/or Eastern European markets. This chapter deals with the imperfections of the electricity spot markets. We will focus on the (capacity of) interconnectors between national grids in Europe. The relevant question is: are connectors a limiting factor in the priceforming process on electricity day ahead markets.

The Electricity Market, Day-Ahead Market and Futures Market

This chapter firstly provides an overview of the day-ahead and futures electricity markets of APX-ENDEX that is one of Europe’s most experienced energy exchanges, operating spot and futures markets for electricity and natural gas in the Netherlands, the United Kingdom and Belgium. An empirical analysis on the relationship between spot and futures electricity market of APX-ENDEX is then covered. We handle the most liquid year, which is 2008, of traded electricity futures contracts and we find that the market is in normal backwardation. Our regression analysis extents the Fama (J Monet Econ 1984;14:319–338) regressions and rejects the efficiency hypothesis. Our results indicate that the futures prices are not unbiased predictors of the future spot prices. Remarkably, the difference between the spot and futures prices is associated with the risk premium and the change in spot prices, supports the arbitrage and speculation opportunities in the market.

The Influence of Renewables on the German Day ahead Electriciy Prices

During the last 5 years European wholesale electricity markets have been confronted with a rapid increase in Renewable Energy Source (RES)-generation. RES-generation is characterized by (1) more decentralized production at typically dissimilar locations compared to traditional production and (2) more intermittent patterns of production depending on weather conditions. This chapter will focus on solar and wind energy, which have in common that they cannot be ordered to our disposal when we need them. However, the share of these renewables in the total energy supply in Germany has increased to such levels that the electricity prices on the day ahead spot market depend highly on the expected supply of solar and wind energy. In addition, regulations in favor of RES-generation in Germany have forced the Transmission System Operators (TSOs) to use all generated solar and wind energy. On windy and sunny days this has led to some exceptional cases of negative energy prices. This chapter identifies the influence of solar and wind energy supply on day ahead electricity prices.

Imperfection of Electricity Networks

In the past, energy networks (grids) were nationally organized. The grids were linked by interconnectors. The capacities of the interconnectors were limited and only used to counter an imbalance in one of the grids. Governments fixed the prices and there was no energy price risk. Liberalization of the market introduced prices that fluctuate every moment; with the liberalization, energy price risk was introduced. The more volatile the energy prices, the larger the risk for market participants. Market coupling links the former nationally organized markets, which may cause a reduction in the volatility of the energy prices. At first the TSOs (Transmission System Operators) sold connector capacity by so called explicit auction, separate from the electricity auction. With the mechanism of explicit auction it was relatively easy to realize a market based allocation of scarce limited interconnector capacity on adjacent borders. Explicit auctions however do not realize the optimal result. In due time, they are replaced by so-called implicit auctions where the interconnectors’ capacities are automatically allocated in such a way that electricity price differences between countries are minimized. This implicit mechanism is also referred to as market coupling. In this chapter the effect of market coupling on market prices is investigated in the observed period, 1 January 2005–31 March 2011, for Scandinavia (South), The Netherlands, Belgium and France. It is found that due to market coupling the price differences between the markets diminish.

The association between qualitative management earnings forecasts and discretionary accounting in the Netherlands

This paper examines whether there is an association between discretionary accounting and the accuracy of long-run forecasts of annual earnings disclosed voluntarily by Dutch companies in the directors’ report. In particular, investigations were made of the consistency in the sign and direction of discretionary accounting techniques and qualitative earnings forecasts. Long-run forecasts are defined, for the purposes of this paper, as forecasts made at least seven months before the year-end. Although not mandatory, qualitative forecasts are released by well over 60% of the listed companies in the Netherlands. Empirical results indicate that there is consistency in the sign and direction of qualitative earnings forecasts and discretionary accounting. After adopting discretionary accounting, the forecast errors are reduced if the company can reach the management earnings forecast (target). In the event that reserves are insufficient to accomplish this goal, managers choose their next best option and take an earnings bath in order to maximize reserves available for future use. By partitioning the sample in various sub-sets it is shown that earnings management and forecast errors occur most in the extreme ranges of financial performance. Overall, the study shows that management engages in discretionary accounting to present results in line with the disclosed qualitative earnings forecasts in their directors’ reports. Whilst discretionary accounting may clearly improve the consistency of companies’ earnings forecasts released via the directors’ reports and the actual earnings, managers’ earnings forecasts are sometimes disclosed in anticipation of planned discretionary accounting actions.

Introduction: Energy and Finance

Sustainability has become a central issue for firms in the energy industry. These firms have been under increasing pressure to uplift not only their environmental consciousness but also social impact of their actions. One constraint of these firms is prevention of trading off shareholder value maximization with increasing their corporate social responsibility activities geared to the long term benefits of stakeholders. Based on the principles of fairness and equity, Islamic Banking and Finance also provides a vehicle for the firms in the energy industry by incentivizing their corporate social responsibility activities.

Energy Technology and Valuation Issues

Part I: Innovation and Shocks.- Part II: Environment and Renewables.- Part III Fossil Fuel Regulation.

Perspectives on energy risk

1 Introduction: Perspectives on Energy Risk.- Part I: Global Risks. 2 Changing Dynamics and Risks in World Energy: The Way Forward.- 3 Slack Resources, Innovation and Growth: Evidence from the US Energy Sector.- 4 Measuring Risks in Energy Markets.- Part II: Geopolitical Risks.- 5 The Natural Gas Revolution and Central Asia.- 6 The Influence of Economic, Financial and Political Indicators in Southeast Asian Electricity Markets.- 7 Geopolitical Market Concentration (GMC) Risk of Turkish Crude Oil and Natural Gas Supplies.- 8 Re-examining Turkeys Potential of Becoming a Natural Gas Transit Hub.- Part III: Local Risks.- 9 Hedging and Speculation: A Discussion on the Economic Role of Commodity Futures Markets (Including the Oil Markets).- 10 The Influence of Renewables on the German Day Ahead Electricity Prices.- 11 Corporate Financing and Investment Decisions in the Renewable Energy Sector.- 12 Prospective Costs for the Aviation Sector of the Emissions Trading Scheme.