In oil and gas markets, the relationships between the spot and futures prices reveal important opportunities for value creation. When oil prices are in contango (i.e., when futures prices are higher than the expected future spot prices), it may be profitable for a trader to hold oil in storage and enter into a futures contract instead of selling oil in the spot market. The decision to either sell oil in the spot market or use the storage to sell oil in the future is usually challenging because the future spot prices and futures prices are uncertain. In this paper, we discuss the storage trading decisions by use of a realistic example, and we propose an analysis methodology on the basis of a two-factor price process for modeling spot and futures oil prices. The dynamic decision problem, sell spot or sell forward, is analyzed with a forward dynamic optimization algorithm and the least-squares Monte Carlo simulation.

Keywords:
asset and portfolio management, Volatility, risk management, Schwartz, Artificial Intelligence, Upstream Oil & Gas, Simulation, contract, price process, futures curve
Subjects:
Asset and Portfolio Management, Decision-making processes, Information Management and Systems, Risk Management and Decision-Making
Copyright 2013, Society of Petroleum Engineers
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