Swing Options

In the energy world -- including, in particular, electricity or natural gas --- many contracts incorporate flexibility-of-delivery options. Subject to daily as well as periodic (monthly, or semi-annual) constraints, they permit the option holder to repeatedly exercise the right to receive greater or smaller amounts of energy. Consequently, these options have an implicit dependence through time: The exercise of an option today limits, and may eliminate, the ability to draw such energy tomorrow. These options are known as “swing” or “take-or-pay” options. Under alternative stochastic processes for the price of the underlying power, this research addresses the valuation of such options as well as their concomitant optimally-chosen exercise boundaries.