A Forward-Backward SDEs Approach to Pricing in Carbon Markets

by Jean-Franïois Chassagneux, Hinesh Chotai, Mirabelle Muïls

Overview

In Mathematical Finance, the authors consider a mathematical model for the pricing of emissions permits. The model has particular applicability to the European Union Emissions Trading System (EU ETS) but could also be used to consider the modeling of other cap-and-trade schemes. As a response to the risk of Climate Change, carbon markets are currently being implemented in regions worldwide and already represent more than $30 billion. However, scientific, and particularly mathematical, studies of these carbon markets are needed in order to expose their advantages and shortcomings, as well as allow their most efficient implementation.

This Brief reviews mathematical properties such as the existence and uniqueness of solutions for the pricing problem, stability of solutions and their behavior. These fit into the theory of fully coupled forward-backward shastic differential equations (FBSDEs) with irregular coefficients. The authors present a numerical algorithm to compute the solution to these non-standard FBSDEs. They also carry out a case study of the UK energy market. This involves estimating the parameters to be used in the model using historical data and then solving a pricing problem using the aforementioned numerical algorithm.

The Brief is of interest to researchers in shastic processes and their applications, and environmental and energy economics. Most sections are also accessible to practitioners in the energy sector and climate change policy-makers.

Product Details

ISBN-13:	9783319631141
Publisher:	Springer International Publishing
Publication date:	10/07/2017
Series:	Mathematics of Planet Earth
Edition description:	1st ed. 2017
Pages:	104
Product dimensions:	6.10(w) x 9.25(h) x (d)

Table of Contents

1 A description of the carbon markets and their role in climate change mitigation.- 2 Introduction to Forward-Backward Shastic Differential Equations.- 3 A mathematical model for carbon emissions markets.- 4 Numerical approximation of FBSDEs.- 5 A case study of the UK energy market.- References.