The relation between electricity and natural gas spot prices in Spain: cointegration and volatility spill-over analysis

Abstract

The relation between electricity and natural gas prices got increased attention recently, after their joint rise in many European countries. The present Master Thesis explains the theoretical relation between both markets in Spain given the significant amount of natural gas devoted to electricity generation. Our main contribution is the analysis of the natural gas Iberian hub, not explored in the literature yet, whose liquidity is also an element of the analysis. In order to quantify the relation between these two markets, we carry out a cointegration analysis, by means of a Johansen and Juselius Cointegration test and a VECM approach. The results show that there are strong common long-term dynamics between both price series, and that, in the short-term, gas prices have a larger impact on electricity prices than electricity prices on natural gas prices. Additionally, we study the volatility spill-over between the markets using three different extensions of the Multivariate GARCH. The results show that there is a strong volatility spill-over between the markets, but the models turn out to be non-stable, so further research in this sense is needed.