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Alejandro Mosiño and Alejandro Tatsuo Moreno-Okuno
''On modeling fossil fuel prices: geometric Brownian motion vs. variance-gamma process''
( 2018, Vol. 38 No.1 )
It is very common in the literature to assume that fossil fuels prices follow a geometric Brownian motion (GBM) process. However, the GBM is an imperfect process in the sense that it cannot capture correctly the frequent extreme movements in fossil fuel prices caused by the information generated within domestic and international markets. In this paper, we use fossil fuel index data to compare the performance of the GBM, which is based on normal density, with that of the variance-gamma (VG) process, which allows us to capture the skewness and the excess of kurtosis of price returns. We show that the VG process fits the data better than does the GBM, as indicated by several goodness-of-fit tests.
Keywords: Fossil fuel index, variance-gamma process, geometric Brownian motion process
JEL: C1 - Econometric and Statistical Methods: General
Manuscript Received : Jun 22 2017 Manuscript Accepted : Feb 27 2018

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