A Risk-Hedging View to Refinery Capacity Investment - Economic Research Forum (ERF)

A Risk-Hedging View to Refinery Capacity Investment

Hamed Ghoddusi and Franz Wirl

July, 2019


31 pages

Economic Research Forum

D8. Information, Knowledge, and Uncertainty
G3. Corporate Finance and Governance
Q3. Nonrenewable Resources and Conservation
Q4. Energy
O1. Economic Development

Should oil-rich members of OPEC invest in the oil refinery industry? This is a crucial energy policy question for such economies. We offer theoretical models for a vertical integration strategy within an oil-producing economy, based on a risk-hedging view. The first model

highlights the trade-off between return and risk-reduction features of upstream/downstream sectors. The dynamic model demonstrates the volatility of total budgetary revenue of each sector. Our theory-guided empirical analysis shows that though the average markup in the

refining sector is significantly smaller than the profits in the upstream, downstream investment can provide some hedging value. In particular, the more stable and mean-reverting refining margins provide a partial revenue cushion when crude oil prices are low. We discuss the risk-hedging feature of the refinery industry when the crude oil market faces supply versus demand shocks.

Research Associates

Hamed Ghoddusi

Assistant Professor, Howe School of Technology Management, Stevens Institute of Technology


Franz Wirl



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