FRSGlobal Developing World’s First Theoretical Foundation for Fair Value Pricing of Emission Linked Derivatives

FRSGlobal today announced that it is working with the Institute of Data Analysis and Process Design of Zurich University of Applied Science (ZHAW) to create the world’s first theoretical foundation to gauge fair value pricing of emission linked derivatives contracts. This CTI project is being led by Professors Wolfgang Breyman (ZHAW) and Jury Hinz (National University of Singapore) in conjunction with risk experts from FRSGlobal.

The research targets two key areas to ensure high-performance and rapid calculation: the modelling of the martingale dynamics of futures contracts on emission allowances; and the implementation of quasi closed-form expressions for European call options on emission allowance futures.

The results of the project will be incorporated into FRSGlobal’s RiskPro risk management suite and presented over 2010/11. The RiskPro solution will provide FRSGlobal customers with a high-performance option evaluation engine supplemented by a reliable model calibration technique based on historical prices of emission allowances.

Thomas Brouwer, head of product management, FRSGlobal, commented: “The emission markets are being established globally and are growing rapidly4. The increasing liquidity in trading futures on greenhouse gas emission allowances has led to the trading of emission linked derivatives. The current problem faced by the industry is that no theoretical foundation for pricing of these contracts is available, and this research and development places FRSGlobal at the forefront of making this a reality.”

Willi Brammertz, chief risk advisor at FRSGlobal, adds: The significance of this development lies beyond its novel analysis techniques in the integrated nature of the approach for the non-financial industry. The gap between the financial and the production side found in most – if not all – non-financial industries can be closed. RiskPro offers the common language for the two sides, which have been incommunicado for too long. The advanced simulation techniques allow for the first time to join the real production and the financial side of any industry – including the ones producing CO2 – and see the full financial consequences of any strategy.”