Real options in the oil and gas sector, a lender’s perspective

Companies in the exploration and production of oil and gas (E&P) business represent a significant share of US corporate bond markets, particularly in the high yielding segment. Investors in high yield bonds lend capital to the E&P sector and are thereby exposed to default risk (credit risk) of these companies. To evaluate the credit risk, investors typically look at general risk estimates like duration-times-spread (DTS), credit ratings or accounting based measures (e.g. leverage). Alternatively, the E&P sector can be analyzed from a real option perspective. The value of an oil field can be seen as an option, with the future oil price as the main driver of the underlying value and the production and exploration costs as the premium one has to pay.

The goal of this research project is to develop an E&P specific model that takes into account the unique characteristics of the sector. Robeco has access to a rich datasets on the E&P sector and their corporate bonds, which combined enable back-testing and evaluating of different models.

The project covers the entire quant model development cycle: performing a literature study, analyzing the data, programming the back-tests, analyzing the results, discussing results with researchers and portfolio managers, writing a research report and giving a presentation. This project is supervised jointly by experienced professionals from the fundamental and quantitative investment teams. Creative, analytic and programming skills are essential in order to successfully complete the project.

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Houweling and van Zundert (2017) “Factor investing in the corporate bond market”, Financial Analysts Journal 73(2)

Dias ( 2004) “Valuation of exploration and production assets: an overview of real options models”, Journal of Petroleum Science and Engineering 44(1-2), 93-114

Gilje, Loutskina and Murphy (2020) “Drilling and debt”, Journal of Finance 75(3), 1287-1325