The Fundamentals Underlying Oil and Natural Gas Derivative Markets

Posted: 3 Jan 2018

See all articles by John E. Parsons

John E. Parsons

Massachusetts Institute of Technology (MIT) - Sloan School of Management

Date Written: November 2017

Abstract

What determines the range and boundaries of energy derivative markets? Why is the oil futures trade dominated by contracts on two grades and locations when the global trade encompasses many grades and locations? Should we expect change in the near future? We review research on the establishment and performance of energy derivative markets, focusing on the two major energy commodities: oil and natural gas. For both commodities, trade in derivatives arose at the conclusion of a historical process in which production along the value chain that had been coordinated by vertically integrated companies or similar institutional structures switched to being coordinated through markets. Consequently, much of the research reviewed here is about the structural changes that made it possible for markets to assume this role. This review encompasses research into the price discovery function, which determines how many successful futures contracts are needed for each commodity.

Suggested Citation

Parsons, John E., The Fundamentals Underlying Oil and Natural Gas Derivative Markets (November 2017). Annual Review of Financial Economics, Vol. 9, pp. 283-300, 2017, Available at SSRN: https://ssrn.com/abstract=3095986 or http://dx.doi.org/10.1146/annurev-financial-110716-032610

John E. Parsons (Contact Author)

Massachusetts Institute of Technology (MIT) - Sloan School of Management ( email )

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