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Nuclear Decommissioning Trust Funds: Rethinking the Approach

Fortnightly Magazine - November 15 1996

the (utility) owner-operator (unless invested in tax-exempt securities like municipal bonds). The NDT financial position in the long run is thus highly dependent on, among other things, the tax laws, the asset allocation over time, and the market-timing skills of the investment managers.

Second, the potential arises for a shortfall of assets (a gap) should the plant shut down prematurely without termination gap insurance. It does not yet appear that utilities formally integrate their nuclear plant insurance approaches (handled by the "risk management" department) with their plans for decommissioning.

Third, a plant owner may wish to "abandon" the plant for business and/or tax purposes. This option becomes conceivable now with electric industry restructuring and the revaluation of generating assets, that is now under way.

Estimates of the expected cost to decommission using the DECON prompt dismantling alternative currently run to about $300 million in 1996 dollars. Putting the plant in SAFSTOR would entail, alternatively, ongoing surveillance, monitoring, and maintenance expenditures equivalent (in present value) to at least as large a fund.6 If only a fraction of the required sum has been accumulated in the NDT at the time of shutdown, the actions that could be taken by the parties will depend on what terms and conditions are then operative under regulatory or contractual arrangements in force to minimize the adverse consequences to public health and safety.

Changing the Approach

and its Consequences

Modern financial theory, pension fund management, and insurance/actuarial practice suggest that contingent claims analysis and an Asset-Liability (A-L) management approach could lead to superior results from a public policy standpoint. Such an approach entails A-L matching while maintaining an optimal portfolio. What is termed "the gap" (the asset shortfall) is the mathematical analog to the

concept of "negative surplus" in the model of a defined-benefit pension plan. If the modeling of the "liabilities" (stream of costs over time) is integrated with that of the "assets" (NDT), the gap can be better monitored and controlled. Techniques for option pricing and portfolio optimization should allow one to design an NDT portfolio that minimizes or eliminates shortfall risk.

The riskier the assets, or the longer the time until decommissioning, the larger the potential swing in the future value of the portfolio. It is this latter result that proves crucial in the context of the NDT. To the extent that funds are required at a date certain, the holding of stocks and bonds rather than a dedicated and immunized portfolio (including, e.g., AAA-rated, zero-coupon, inflation-indexed bonds) could lead to a shortfall on the date(s) certain for disbursement from the NDT.

By analogy to recent work by Zvi Bodie7 and earlier work by Jack Treynor8 that focused on corporate defined-benefit pension funds, one can show that the assurance provided by the nuclear plant owner to cover decommissioning costs involves a put option.9 The analogy to pension funds also calls attention to the concept of termination insurance, as provided by the Pension Benefit Guaranty Corporation (PBGC) under the ERISA legislation.10

Put options fall under the rubric of "derivatives" (em financial instruments that can be used in