A jump diffusion model for spot electricity prices and market price of risk

•We develop a mean-reverting jump-diffusion model for electricity spot prices.•This accounts for observed seasonality, time-dependent jump intensity and heteroskedastic disturbance.•We also derive closed-form pricing formula for electricity futures.•The market price of risk on the diffusion is found to be negative.•The market price of risk on jumps, on the other hand, is positive and seasonal.

We construct a jump-diffusion model with seasonality, mean-reversion, time-dependent jump intensity and heteroskedastic disturbance for electricity spot prices, while keeping the analytical tractability of futures prices. We find that the jump component plays a considerably larger role than the diffusion component in the variance of spot prices. Moreover, the jump intensity is much higher during summer and winter. We also explore the seasonal market price of risk (MPR) with different maturities, from one month to five months. Our results show that the diffusion risk and the jump risk are priced quite differently.