Title: On the state-space modelling of UK allowance futures prices
Authors: Jun Seok Han - Macquarie University (Australia) [presenting]
Nino Kordzakhia - Macquarie University (Australia)
Pavel Shevchenko - Maquarie University (Australia)
Abstract: The term structure of the United Kingdom Allowance (UKA) is modelled using the Schwartz-Smith two-factor model. Futures prices are derived as functions of short-term and long-term factors, leading to a set of simultaneous measurement equations that are used for joint estimation of state variables and model parameters via the Kalman filter and maximum likelihood estimation method. A comparative analysis is performed to compare three reduced-form models, assessing the goodness-of-fit and out-of-sample prediction. We study the price dynamics of historical daily futures prices from May 19, 2021, to March 17, 2022, which matures in December annually.