With the Environmental Protection Agency’s proposed greenhouse gas (GHG) emissions standards expected in June 2014, many states are considering their own approaches to provide flexibility in...
Banks are reshaping the energy-trading landscape. When the dust settles, utility companies will face different strategic horizons.
former AEP wholesale plants by Sempra Energy and the Carlyle/Riverstone private equity group.
The perception of diminishing off-take risks bolstered lenders’ interest in such transactions—in part due to improved liquidity. Nearly half of the La Paloma facility’s output, for example, is sold in California’s wholesale power market, not under a long-term contract. With dozens of standardized electricity-futures contracts being traded and cleared in over-the-counter (OTC) exchanges, plant owners have a better chance of finding buyers, as well as finding hedging products that will allow them to manage their commodity-price risks.
Perhaps most important, contract terms have stretched out from weeks and months into years, providing more of the kind of price certainty counterparties need to hedge their positions effectively.
“It was difficult for utilities to move into the longer-dated hedge products because of the immaturity of deregulation,” says Fran Shields, a senior executive with Accenture in Philadelphia. “We had a lot of trading in the short space, but not much emphasis on the longer market. The difference today is that banks are bringing longer-dated instruments into the cleared markets. We have a broader array of products and services now that we didn’t have before.”
Different This Time?
Memories of Enron and the agonizing collapse of the U.S. energy-trading market remain fresh in the minds of utilities, as well as their shareholders and regulators. In this context, many load-serving utilities likely will have a lukewarm response to maturing energy markets. Of course, they welcome more robust markets that make it easier to sell excess capacity and hedge fuel-price risks in accordance with PUC recommendations. But beyond that, energy trading as a business activity raises more risks than it manages for utilities—most of which deal with price fluctuations the old-fashioned way: by passing them through to ratepayers.
“Energy trading is a prudent approach that could save utilities some costs,” Fusaro says. “But we’re not seeing a stampede, because utilities like to keep a low profile at the PUC, and every PUC in the country already has its hands full dealing with other issues.”
At the same time, however, utilities and regulators understand that failure to hedge against price spikes—particularly in natural-gas markets—can be a fatal mistake. In the most recent example, Hurricanes Katrina and Rita locked-in a significant share of U.S. natural-gas production capacity beginning in September 2005, driving gas prices to historic high levels. Some utilities conducted hearings and launched investigations into hedging techniques. In New Jersey, upon approving a Katrina-related rate-increase schedule for South Jersey Gas Co., the state Board of Public Utilities (BPU) launched a study to examine price-hedging practices among the state’s gas distributors and make recommendations. And the California Public Utilities Commission (CPUC) recently approved further expansions to utility gas-price hedging commitments, after approving hedging surcharges for California IOUs late last year.
“We’re working hard to stay ahead of the rising natural-gas price curve this winter,” stated PUC President Michael Peevey. “Today’s decision gives SoCalGas and SDG&E more power to rein in volatile natural gas prices and reduce customer bill impacts.”
Over time, price pressures will nudge utility companies