Quantitative Commodity Models
Overview
Asset Modeling
The most common mathematical assumption for modeling a commodity is that it follows a
geometric brownian motion. However, there are well
known corrections to the GBM model.
Mean reversion: many commodities are known to be mean reverting. That is, once the price
deviates from a given mean value, there exists a pull back to that mean.
{% \Delta log S = a [\mu - log S] \Delta t + \sigma dW %}
(see
Hull)
Here {% \mu %} is the mean reversion level of the log price. Any deviations of the logarithm of the price
from {% \mu %} will create a drift back to that level.
