Review of Quantitative Finance and Accounting

, Volume 28, Issue 2, pp 203–225 | Cite as

Oil convenience yields estimated under demand/supply shock

  • William T. Lin
  • Chang-Wen Duan


This paper extends the call option model of Milonas and Thomadakis (1997) to estimate oil convenience yields with futures prices. We define the business cycle of a seasonal commodity with demand/supply shocks and find that the convenience yield for crude oil exhibits seasonal behavior. The convenience yield for West Texas Intermediate (WTI) crude oil is the highest in the summer, while that for Brent crude oil is the highest in the winter. This implies that WTI crude oil is more sensitive to high summer demand and that Brent crude oil is more sensitive to shortages in winter supply. Convenience yields are negatively related to the inventory level of the underlying crude oil and positively related to interest rates due to the business cycle. We also show that convenience yields may explain price spread between WTI crude oil and Brent crude oil. Our computed convenience yields are consistent with Fama and French (1988) in that oil prices are more volatile than futures prices at low inventory level, verifying the Samuelson (1965) hypothesis that future prices are less variables than spot prices at lower inventory levels.


Business cycle Convenience yield Demand/supply shock Theory of storage Two-period model 



We acknowledge the financial support from National Science Council of R.O.C. (Grant No: NSC 90-2416-H-032-002).


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Copyright information

© Springer Science+Business Media, LLC 2006

Authors and Affiliations

  1. 1.Department of Banking and FinanceTamkang UniversityTamkangTaiwan

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