Markets Linkage and Optimal Crack Spread Positions in Related Oil Futures Markets

Crack spread permits traders to take positions on refining profit margins and product mixes. It is important to energy complex hedgers and has become popular among sophisticated speculators. The concepts of gross refining cost and crack ratio were introduced into the behaviors of crack spread to extend the market linkage researches of Garbade and Silber [11], and Wang and Yau [26]. This paper proposes an unit root-based approach to test the market linkage between refined and crude oil futures, and uses the value of crack spread to constitute the tuning structures of related oil futures markets. Our empirical results show that the influential directions of tuning structures are consistent with the expectations of our model. After the reasonableness is accepted, this model helps to observe the linked degree of related markets. Furthermore, using the assumption of stable crack spread, the optimal crack spread hedge model is derived to form minimum-variance spread portfolios. It is observed that the optimal crack spread positions depend on the values of crack spread. The more crack spread values, the less the absolute values of these positions.