Designing natural gas utility hedge programs with call options

Purpose – To evaluate various hedge programs designed to minimize the risk of an extreme monthly gas bill subject to a pre‐determined hedge program budget. Design/methodology/approach – Historical data were collected on natural gas spot and futures prices. Also, theoretical options prices were calculated. These data were then applied to derive the risk associated with extreme bills under different hedge strategies. Findings – In every instance, having a price cap hedge program is better for core customers of a utility company than not having a hedge program. Research limitations/implications – The better hedge performance is based on historical data. It may not apply to future scenarios. Also, the theoretical options prices may need refinements. Practical implications – Any utility company should seriously consider a price cap hedge program to protect its core customers. The exact program design will likely change but the basic principles and methods described in this paper are directly applicable. Originality/value – This paper provide/guidelines for a utility company to design its hedge programs for the benefits of core customers. Currently, there is no such guideline available and there is no study evaluating these hedge programs. This paper provides a first attempt.