The viscosity solutions approach to swing options pricing under a regime-switching mean-reverting model

Abstract

Abstract In this paper, we study the valuation of swing options on electricity markets with local volume and refraction time constraints, under the setting that the dynamic of the underlying spot price is a 2-state regime-switching mean-reverting process. We derive the corresponding optimal multiple stopping problem, reduce it to a sequence of optimal single stopping problems, and further find that those value functions satisfy HJB variational inequalities subject to suitable conditions. Then after a prior estimation for the value functions, the viscosity solutions approach is adopted to get existence and uniqueness results in viscosity sense.

Keywords

• Swing options
• Regime-switching
• Mean-reverting
• Variational inequalities
• Viscosity solutions