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Commission Watch

IOUs, RTOs duke it out over standardization.
Fortnightly Magazine - September 2004

expensive option to implement, because it would require rewriting some of the most complicated software an RTO/ISO uses. On the upside, the rewrite would require only a one-time effort, with little or no recurring cost. PJM offered to FERC its recent proposal to the PJM stakeholder Credit Working Group as a possible solution, which would allow for voluntary, shorter settlement periods for participants, thereby allowing them to take advantage of the resulting reduced collateral requirements.

ISO New England (ISO-NE) said improved credit protection could be achieved via more frequent billing cycles, faster procedures for clearing transactions, and more frequent payment protocols. It also advocated shorter settlement periods, noting that financial markets such as NYMEX and NASDAQ rely on a daily settlement process.

ISO-NE, which has investigated those financial markets as a way to manage risk, said clearinghouse models used in those financial markets would increase the likelihood suppliers would be paid and would therefore lessen the default payment risk for the energy spot market administered by RTOs/ISOs.

What Next?

Executives from credit-related industries offered suggestions to FERC on how to resolve the problems with credit issues facing RTOs/ISOs.

Moody's KMV, a subsidiary of Moody's Corp., does not believe credit requirements for the wholesale electric transmission services should be standardized, but it does see a need for more sophisticated credit practices. It calls for the following guidelines:

  • Forward-looking default probability models such as Expected Default Frequency should be used for credit-risk assessment of public and private companies, rather than agency ratings alone;
  • Default probabilities should be placed in a well understood framework and mapped to a universal scale for public and private firms, allowing them to be understood across the industry;
  • Market measures of risk should be used to address the dynamic nature of credit risk and provide early warnings of credit events; and
  • Creditworthiness of firms should be monitored daily.
  • Peter Axilrod, managing director of the Depository Trust and Clearing Corp. (DTTC), the world's largest clearing infrastructure organization for all domestic cash trading and settlement in the United States, including stocks and bonds, points out that DTCC in the past 30 years has increased the size and efficiency of U.S. securities markets by removing counterparty risk and guaranteeing settlement of all securities contracts.

    But where energy markets are constrained by credit requirements, it isn't so easy to merely implement the DTCC method. Unique questions remain. Who will be the provider of last resort? How do you guarantee physical delivery of energy? Because of those differences, Axilrod urges taking an interim step by reducing the amount of collateral participants need to put up to participate in the energy markets.


    John Flory, who worked for the now defunct California Power Exchange and currently serves as president of North American Credit and Clearing Corp., wants his company to become the clearinghouse for energy transactions under the supervision of the federal Commodity Futures Trading Commission. He thinks one central counter-party to all the trades would make it easier and more productive to deal with one clearinghouse and establish one line of credit rather than to set