
On Thursday, Dec. 8, as natural gas hit $40 at the citygate for Southern California (prices hit $60 that Friday), I found myself in Colonial Williamsburg, a guest of Michigan State University's Institute of Public Utilities, at the group's annual conference, watching a panel of industry experts try in vain to explain what was happening.
First came David Costello, from the U.S. Energy Information Administration. He put some recent forecasts on the overhead projector, showing gas "spot" commodity prices at $6 this month and falling by January 2002 to about $4.50, give or take 75 cents. Say what? Costello shrugged and admitted that EIA had missed the mark. "The New York citygate price was about $30 yesterday," he said, adding that "yesterday's closing price on the NYMEX was more than remarkable." Does EIA have a clue? "Forget about this winter," he advised. "We're concerned about next winter."
Next up was Michael Shames, director of California's UCAN consumer advocacy group. Shames put up his own set of graphs. They showed retail gas price spikes in a virtual mirror image of recent electricity price curves. The 6.5-cent retail cap, enacted this summer in California to protect residential electricity customers against rate increases for standard-offer utility service, doesn't cover gas. "The gas price spike hasn't hit customers yet," said Shames, "but it will in a month or two. And there's no safety net, like there is for power."
That left it to Stephen Adik, senior executive vice president and chief financial officer at NiSource to offer some insight, and he didn't hold back.
"It's my firm belief," said Adik, "and you can quote me on the record on this, that today gas prices are being manipulated.
"It's not the pipelines. It's not the LDCs. It's pure raw speculation on Wall Street."
"WE DON'T UNDERSTAND HOW INCREASES OF THIS MAGNITUDE CAN OCCUR IN A 'COMPETITIVE' NATURAL GAS MARKET." That was J.A. Gomes talking. Gomes is executive vice president of California Dairies Inc., a dairy cooperative owned by farmers that runs five milk processing plants in California, using about 1.76 million therms of gas per month.
"We have seen our costs increase from $670,000 in May to $2.2 million in December to a forecast of over $4.4 million for January," said the dairy in a letter sent to the Federal Energy Regulatory Commission on Dec. 6.
"This is a sixfold increase amounting to over $100,000 per day. It puts our business in jeopardy."
Of course, some might attribute California's gas price crisis to the pipeline explosion that occurred Aug. 19. That incident blew out a 30-inch pipe and forced the shutdown of two more lines at El Paso Natural Gas Co.'s Pecos River crossing in Southeastern New Mexico. For several weeks it curtailed about 1.2 billion cubic feet per day of gas flowing to Arizona and California markets.
But dairy farmer Gomes was talking about something different, one of two cases now pending at the FERC about whether markets for importing gas into Southern California are workably competitive or just plain dysfunctional. In one case, the state of California and others are fighting for rehearing of FERC orders on how to allocate constrained delivery capacity at the Topock citygate interface between Southern California Gas and the El Paso pipeline. That's the most desirable delivery point-where the least-expensive Southwestern gas enters the highest-priced Southwestern market. (.)
El Paso Merchant says it didn't "oversell" the Topock delivery point or allocate Topock rights improperly. Instead, it says the SoCal Topock delivery point was only "over-nominated."
In the other case, the state of California filed suit against El Paso Natural Gas Co., alleging that the pipeline improperly awarded rights to some 1.2 Mcf per day of firm pipeline capacity to its own marketing affiliates, El Paso Merchant Energy-Gas L.P. and El Paso Merchant Energy Co. (EPMEC), which allowed them to hoard pipeline capacity to drive up the price of gas pipeline capacity.
On Dec. 7, the PUC urged the FERC to ignore all the infighting over confidentiality of data and just cut to the chase. It claimed that the skewed market in late November and early December had driven up basis differentials between upstream injection points and the SoCal citygate-so high that the value of EPMEC's pipeline capacity rights had risen by "almost 300 percent." The PUC says that value is "7,000 percent higher" than El Paso's firm filed transportation rate, based on a 100 percent load factor. This has happened, says the PUC, during a time that the San Juan Basin spot wholesale gas commodity price rose only from $3.585 to $9.150. ()
Nevertheless, EPMEC denies accusations by the PUC that it hoarded capacity to drive up basis differentials. Instead, El Paso Merchant argues that it had no incentive to withhold gas pipeline rights off the market, since in reality the company had chosen the wrong side of the market in its hedging strategy. According to the company, as explained in a Nov. 3 pleading, it took a short position on basis spread during the period in question, so that it could not profit by speculating on capacity rights:
"EPMEC's financial transactions reversed the position EPMEC was in when it first acquired the El Paso capacity. [We] became short the basis spread between the San Juan Basin and the California border. É [We] thus had an incentive to flow as much gas as possible to offset [our] financial trading losses from [our] hedging activities, and hoarding capacity would have been financially detrimental."
NOW IMAGINE TRYING TO SET A PRICE CAP FOR ELECTRICITY THAT REFLECTS THE "TRUE" COST OF POWER, INCLUDING GAS. As of Dec. 7, San Diego Gas & Electric was calling for a price cap on natural gas, set at 150 percent of the bundled sum of the commodity rate and the as-billed pipeline rate. And if you want more proof, take a look at the wonderful-yet-flawed analysis by Jan Schori, general manager and CEO of the Sacramento Municipal Utility District, and James A. Tracy, SMUD's director of business, planning and budget.
In papers filed at the FERC late last year, Schiori and Tracy presented a detailed spreadsheet analysis showing what a just and reasonable wholesale market price for electricity ought to be. They suggested a price of between $88 and $111 per megawatt-hour for a simple-cycle gas turbine with a five-year investment payback and a capacity factor running between 25 percent to 40 percent. For a combined-cycle unit (same payback, but capacity factor of 75 percent to 90 percent) they put the price at between $61 and $66 per megawatt-hour. And Schiori and Tracy really did their homework.
Their study assumes a range of variables such as heat rate, fixed and variable O&M costs, income and real estate taxes, depreciation rates, debt costs, return on equity, front-end equity investments, and any balloon payment on early refinancing. But surprisingly, it says NOx emissions credits make no difference. () Their study is superb. You should read it. Among other things, SMUD recounts some of its discussions with investment bankers and current industry practice for gas turbine project financing.
But there's a problem. SMUD's beautiful spreadsheets assume a natural gas price of only $4.50. Nice work if you can get it.
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