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Utility Risk Programs: Success or Failure?

State public service commissions are insisting that utilities adopt risk management programs, and are allowing less pass-through for those that don't.
Fortnightly Magazine - May 1 2002
  1. as a term to describe speculative relationships.
  2. The trade press, such as Gas Daily, regularly reported throughout much of 2001 on the large number of producing companies using the futures market to lock in large returns. In 2001 up until July/August the average of the forward prices for heating season 2001/2002 was generally above $4.00/MMBtu. If the marginal cost of producing and delivering the gas to the wholesale market is $2.00 for the producer, this represents a 100% return.
  3. The decline in the price level for heating season 2001/2002 was largely caused by robustness of supplies as measured by storage in the AGA producing region when compared to year earlier levels, but other factors mattered greatly as well, such as demand. John H. Herbert, "The Gas-Fired Future: Boom or Bust? Last year brought price not seen for decades. So Consumers will buy less gas just as before, and send the forecasts out the window", , p. 20, April 1, 2001, page 20.
  4. David J. Ellis, Director of Utilities Division, Public Service Commission of West Virginia, July 11, 2000, available from www.psc.state.wv.us/hedging.pdf.
  5. For a clear documentation and review of a hedging program near the beginning of the heating season see "Testimony of Bradley O. Dixon, Case No. 98-KGSC-475-CON, Kansas Gas Service Company", December 21, 2001. It would be a positive sign if more Commissions held such hearings.
  6. , Munis credit rules provide risk protection, February 4, 2002, page 6.
  7. For example, an approach in some approved plans for options by Commissions is to agree on a lump sum cost of a volume of gas to be hedged, based on the cost of the options at the time of approval. If the utility waits to put on the hedge in the hope that the cost of the option will come down and it will pocket the difference between the approved cost and actual cost, this can create major problems if price risk or price level increases in the interim. If either price risk or the price level increases, the cost of hedging each volume of gas will increase and customers will get much less protection from price risk. Worse than that, the customer may receive no protection if the company fails to put the hedge in place because the 'return' from effecting the program (incentive) was not great enough. In essence the utility is betting that it has a better than a 50/50 chance of obtaining a gain because the cost of an option necessarily declines as the termination date of the option approaches as long as the price level and price volatility do not increase.
  8. State of Rhode Island and Providence Plantations, Public Utilities Commission Docket Nos 1673, 1736 & 3347, October 17, 2001.
  9. Corporate Commission of the State of Oklahoma, Case No PUD 200100057, November 2001, Order Regarding Prudency.
  10. See John H. Herbert, The Gas Merchant Business: Still a Place for LDCs?, , July 1, 1999,
  11. John H. Herbert, The ABCs of Trading Btus: A Guide to Convergence of Prices and Services in the North American Natural Gas and Electricity Markets,