WTI Market Maker Trading Simulation Model continuous trading

WTI Market Maker Trading Simulation Model (continuous trading) John Lavorato Chief Operating Officer, Enron Wholesale Services Prepared by Zimin Lu, Enron Research

Simulation Procedures The simulation model has two versions Version 1 assumes continuous trading, i. e. , close - close prices are used Version 2 assumes open-close trading, a more realistic assumption Simulation Procedure V. 2 Zimin Lu x 36388, Stinson Gibner x 34748 1) Open to Close prices are used in the simulation. 2) Number of trades due to market movement is determined by the ratio of open-to-close price difference versus the half bid-offer spread. The number of trades on a day is always equal to 3) 4) 5) 6) the daily number of trades allowed from the input. If the net open position exceeds the limit allowed, liquidation is assumed at the close price to bring the open position to be within the limit. On the maturity date of the prompt month contract, the open position is rolled over into the second near month contract. There are MAX(daily number of trade - number of trades due to market movement, 0) trades just earning the half of bid-offer spread. Rollover P/L shows the cumulative benefit or cost of rolling the open position over at contract terminations. 1

Impact Of The Assumptions Bid / Offer Spread: Higher spread, more profit Daily Number of Trades: More trades, more profit Net Open Position Allowed: NOPA does not limit open position intraday, but limit net open position carried to the next day The larger NOPA, more volatile the cumulative P/L Volume Per Trade: Amplifies the P/L Simulation Interval: Total P/L is path dependent, meaning that the P/L depends price history during the simulation 2

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Last Words Transaction costs can be built into the bid-offer spread, so that the input reflects the “effective spread”. The model assumes that we can liquidate positions at closing price, to bring down the open position within the net open position allowed. In reality it may incur some cost due to market friction. 12