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dc.contributor.authorKanamura, Takashien_US
dc.contributor.authorRachev, Svetlozar T.en_US
dc.contributor.authorFabozzi, Frank J.en_US
dc.description.abstractThis paper proposes a profit model for spread trading by focusing on the stochastic movement of the price spread and its first hitting time probability density. The model is general in that it can be used for any financial instrument. The advantage of the model is that the profit from the trades can be easily calculated if the first hitting time probability density of the stochastic process is given. We then modify the profit model for a particular market, the energy futures market. It is shown that energy futures spreads are modeled by using a meanreverting process. Since the first hitting time probability density of a mean-reverting process is approximately known, the profit model for energy futures price spreads is given in a computable way by using the parameters of the process. Finally, we provide empirical evidence for spread trades of energy futures by employing historical prices of energy futures (WTI crude oil, heating oil, and natural gas futures) traded on the New York Mercantile Exchange. The results suggest that natural gas futures trading may be more profitable than WTI crude oil and heating oil due to its high volatility in addition to its long-term mean reversion, which offers supportive evidence of the model prediction.en_US
dc.publisher|aKIT [u.a.] |cKarlsruheen_US
dc.relation.ispartofseries|aWorking paper series in economics |x27en_US
dc.subject.keywordfutures spread tradingen_US
dc.subject.keywordenergy futures marketsen_US
dc.subject.keywordmean-reverting processen_US
dc.subject.keywordfirst hittingen_US
dc.subject.keywordtime probability densityen_US
dc.subject.keywordprofit modelen_US
dc.subject.keywordWTI crude oilen_US
dc.subject.keywordheating oilen_US
dc.subject.keywordnatural gasen_US
dc.titleA profit model for spread trading with an application to energy futuresen_US
dc.typeWorking Paperen_US

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