How to survive Australia’s energy market bull run

The Australian energy market is sky high at the moment. Consumers of energy in Australia are in for a real scare if they ask suppliers for quotes for delivery of energy in the next months and years. The forward wholesale price for delivery of electric power in 2018 has quadrupled in Victoria and tripled in other regions since the start of a bull run in the second half of 2015. An extreme bullishness reminding us of what we saw in Europe in 2005 – 2008. The Australian electricity price is now among the highest on the planet, which is weird in a country so richly endowed in coal and natural gas. What’s causing the high prices and how should you react to it?

What are the bull factors?

Before going into the details of events leading to this spectacular bull run, we should make a remark on the unique character of Australia’s energy market, caused by the extreme geography. The enormous distances to be covered by power lines and gas pipelines, makes the Australian energy market a set of regional markets rather than one national market place.

In 2015, the Australians consumed 253,6 TWh of electricity. That is less than a mid-sized European electricity market like Spain (278,5 TWh). If you know that Australia is more than 15 times bigger than Spain, you understand the difficulties of bringing this electricity together in one market. The consequence is that Australia is comprised of a set of regional, poorly interconnected markets.

In itself, each of these markets are relatively small. This causes them to be highly perceptive to:

  1. Price changes as soon as something changes in the supply and demand equilibrium.
  2. Lack of liquidity in the wholesale markets.
  3. Lack of competition in the retail markets.

Whereas the demand in the Australian energy market has remained quite stable, supply has seen some remarkable changes in the last years, with the closure of many old coal-fired power stations. The marginal power stations are now more and more often gas-fired, with the electricity prices influenced by natural gas prices rather than coal.

So wait a minute, you might say now, isn’t Australia sitting on massive reserves of natural gas? Yes, it is, and in the period 2000 – 2015 gas production more than doubled. But surprisingly, this natural gas isn’t finding its way to the inland market.

Again, we have to look at Australia’s geography. The largest natural gas fields are to be found in the West, and currently there are no pipelines connecting them to the zones of consumption in the East. (The Northern Gas Pipeline should make that connection as of 2018.)

Australia has chosen to use its natural gas resources for export as LNG. With energy-hungry Asia at its doorstep, Australia has wild dreams of becoming a new Qatar. It is going through a rapid expansion of its LNG export capabilities. However, the new export terminals in the East have been finalized much more rapidly than the terminals in the West. Due to this, the Eastern gas production, already under pressure from increasing demand for power production, now sees a lot of extra demand for export as LNG as well.

This extra natural gas was supposed to come from the coalbed seams that are so richly endowed with methane in Eastern Australia. But production from this new source has failed to meet expectations. As such, Australians face the insane situation that inland gas prices are skyrocketing while exports increase rapidly. The Australian gas market is very opaque. Deals are bilateral and there are no market places such as Henry Hub or TTF that give a clear indication of prices paid. However, several sources cite prices as high as 12,5 Australian Dollars per GJ. That is a staggering 9 US Dollars per MMBTU or 30 euros per MWh.

That is at times more than the prices at which Australian gas companies sell LNG in the spot markets in e.g. Japan, leading to accusations of oligopoly and market power abuse. It’s always difficult to judge such claims. Australian gas companies are struggling for market share in Asia, competing with e.g. newcomer US. It is therefore understandable that they might prefer to export to Asia even when prices in their own country are higher. Nevertheless, the Australian government has reacted to this and issued regulation that allows them to curb exports (read the article here).

In a country so richly endowed in energy sources, there are many reasons why electricity prices could drop again:

  • Government interventions such as the curb on exports could prove effective.
  • Interconnection with Western Australia could bring more gas to the East.
  • Increasing LNG export capacity in the West could relieve pressure on the Eastern natural gas markets.
  • Developing a market of locational swaps could overcome the interconnection restrictions.
  • Australia could fix its renewable energy policy so that it can finally tap into its rich wind and solar resources. This could move the marginal MWh’s away from expensive gas-fired power stations.

Whether these bearish factors will materialize is impossible to predict, especially as a lot of them depend on politics. For the time being, Australian energy consumers need to face the reality of high energy prices and figure out how to deal with them.

What should you do?

When going into the market to ask for an offer for electricity pricing in the next years, Australians are in for a shock. If they fixed prices for the current period more than two years ago, they might receive an offer up to three times more expensive than what they are currently paying. How can you face such a situation?

The first advice is: don’t think the market will come down because you want it to. You can be the best energy buyer or consultant in the world, but you cannot determine whether markets move down or up. So don’t be tempted to develop a strong belief that “it has to fall again” and don’t do anything. Yes, you are too late, but if you don’t do anything, you might be even more so.

Be careful of rationalization in that context. I have cited some reasons above of why the Australian energy price could fall again. Maybe you’re already in that state-of-mind where they have reassured you. But neither me nor anyone can predict whether those factors will materialize. Moreover, no one can say what their exact impact on price will be. And it’s impossible to know whether other factors will not materialize that turn the market bullish again.

Second advice: don’t panic. We don’t know whether bearish factors will pop up, but we also don’t know for sure that they will not. Therefore, it could very well be that this is the highest moment, the exact peak. So, don’t let yourself be talked into a long term fix price deal because you think that if you don’t do anything now, it can only get worse. Many European consumers walked straight into that panic buying trap in the first half 2008, with lots of frustration when markets came down again.

Third advice: spread the risk. Moments like these are clearly showing why contracts where you can forward fix prices in different tranches are so valuable. If you had had such a contract in place, you would have probably done fixings in the rising market, making the situation less grave. Well, at least you would have had the possibility to do it. But OK, if you haven’t had such a flexible contract or you didn’t use it well, now is a good moment to do it.

This is a plan of action to deal with the current situation in the Australian market:

  1. Analyze the current situation, even if it hurts to do so. By how much will your price increase if you fix now?
  2. Set up a short term strategy based on two elements: 1. A stop loss that is higher than the current price level. 2. A spreading scheme based on the day by which you need to have a contract in place. E.g., if you need to have a new contract by 1/1/2018 and you want a fix price in 2018, you could go for a flexible contract with six tranches and then fix a tranche in each of the next six months. If the markets continue to run up, speed up the fixings to keep your price below the stop loss levels.
  3. If your consumption is too low to obtain such contracts with price fixing flexibility, you can think about varying the duration of the fix price contracts that you sign. E.g. sign a contract for the first six months of 2018. Next, monitor the market for what happens to the remaining six months and keep the overall price for the year below your stop loss level. Signing the next fix price contract then for one year and going on with one year contracts starting on the 1st of July, brings the advantage that you’re always fixing the price for half the volume of two years at the same level, which brings price stability.
  4. Take your time to define a long term strategy that will make sure that you will never be in this situation again in the future.

Australia’s recent energy price history shows that volatility remains a reality in energy markets and that strong price increases can always occur, anywhere, even in a country with a lot of coal and natural gas. It shows the importance of having a solid strategy in place and monitoring your portfolio in all corners. Many of you reading this article will now realize that as far as their Australian activities are concerned, they are too late. Don’t let that lure you into bad decision-making.

belen.pngIf you want to discuss your situation in Australia and get some first-hand advice on what to do, please contact our business developer Belén Goméz Abad: belen@eecc.eu or +34 618 081 322

 

 

Dealing with unpredictability in energy trading

When buying energy, you inevitably have to take energy trading decisions. In deregulated electricity and natural gas markets, the commodity value of the energy is linked to the underlying wholesale markets. On these over-the-counter (OTC) and exchange traded markets, the price of energy moves up and down. Buying energy means taking decisions on whether to fix the price or not and if you fix, whether to do it today or tomorrow. In volatile markets, these decisions can cause large variations in your energy costs.

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Most buyers of large volumes of energy have clearly understood that the timing of your price fixings is the most important factor determining how much you will pay. They have put in place contracts with suppliers that offer them flexibility for the fixing of the wholesale value, contracts that allow you to fix in different moments on the different forward products and/or leave volumes open for spot indexation.

In most mature deregulated energy markets, the users are well accustomed to working with such products. But in countries where the deregulation is more recent, we still find that many industrial consumers have resistance towards this energy trading activity. They call it “speculative”, confusing trading with speculation. Energy trading is an inevitable component of buying energy in a deregulated market. You have to take decisions on whether you fix your prices or not in a market that moves up and down. That’s trading, whether you like it or not.

As trading is not a natural environment for industrials, we see many of them struggling to find the right approach to it. This struggle has a lot to do with people’s attitude to unpredictability.  Energy markets are unpredictable. 95% of the energy buyers that we talk with acknowledge that.

5% of the buyers: you can predict energy prices

5% don’t. They think that you can ‘crack the code’, that there are mathematical laws determining the movements of energy markets. That you can unveil these laws and use that mathematical information to take decisions on whether to fix or not.

The popular argument for debunking that illusion of predictability is simple. If you would have cracked the code for predicting energy prices, why would you be an energy buyer? You would much better become a real trader, buy and sell speculative volumes and earn yourself a villa in the Bahamas. And any consultant or portfolio manager that has a forecasting that actually works would be very stupid if he or she sells it to an industrial client for a few thousand euros or dollars.

Energy markets are unpredictable. The supply and demand equation is extremely complex. The number of variables is very high and the interactions between them are not simple causal relationships. Most forecasting models are based on mathematic wizardry that unveils correlations. However, analysis shows that these correlations change over time, so a current correlation cannot be used to predict the future. Moreover, even if a correlation would be constant, e.g. between the price of electricity and natural gas, this knowledge doesn’t help you very much. It just tells you that one unknown factor (the future electricity price) is correlated to another unknown factor (the future gas price).

On top of this, energy markets can be shaken by unexpected events. Some of those noticed in the recent past: the shutdown of nuclear power stations in France due to security issues, the impact on worldwide energy markets of the Fukushima nuclear disaster or the shale gas revolution in the US. Anyone claiming that she/he can predict energy markets, is claiming that she/he can predict such events.

Best case, forecasts are right 50% of the time. Therefore, they are not a solid basis for taking your energy trading decisions. And if your energy buyer believes in forecasting, she or he is a danger to the financial health of your company. One day, she or he will take a decision based on a wrong forecast that makes your company buy energy on the wrong side of the market.

10% of the buyers: you can’t predict energy prices, so you shouldn’t trade energy

10% of the energy consumers accept the full consequences of this unpredictability. They choose to delete deliberate trading decisions from their energy procurement practices. They link their energy prices to the spot price, to an average forward price or buy at randomly chosen moments to produce an average price. We have a client, for example, that fixes the price for 1/24th of the expected consumption in each of the next twelve months on every 10th and every 21st of the month.

You will find this hands-off approach most often with very large consumers. If you are consuming Terrawatthours of electricity and/or gas, every decision to fix or not is a matter of millions of dollars or euros. Many companies decide that the energy buyer is not the appropriate person to do that. So they either set up a real trading desk, or they go for automated buying. We also observe that hands-off is much more popular among US companies.

E&C supports clients that want to set up a system for price averaging or automated buying decisions. The main challenge for them is to find an average that is in line with their risk exposure. Are they a budget risk customer that is mainly affected by large year-on-year cost increases? Then they should set up a system of automated buying for three or even more years in the future. Are they a company that can see its competitiveness affected by having a higher energy cost than competitors? Then they should find out how rapidly the prices of their products adapt to energy price changes and set up automated buying in line with it.

Nevertheless, giving up the taking of deliberate decisions to fix or not, is a bit of a pity. The large majority of E&C’s customers have a hands-on approach in which they take decisions based on energy risk management instead of forecasting. We see a lot of business value in that approach.

10% of the buyers: you can’t predict energy prices, but you can create business value by actively managing your prices

Active energy price management means that you adopt the following approach:

  1. You analyze the impact of energy market volatility on your business and implement a strategy that mitigates the risks. This strategy will not determine when you buy, but it will determine how much you buy how far into the future. If your main risk is a large increase of energy costs (i.e. budget risk), you buy larger volumes for many years into the future. If your main risk is a loss of competitiveness by having fixed at a higher level than the market (i.e. market risk), you buy very regularly and buy only small extra portions in opportunity moments. How far you buy in the future is determined by the pace at which prices for your products adapt to changes in energy costs. This approach can be further finetuned with budget-at-risk calculations and price fixing tables with minimum and maximum levels up to which you should / can fix before certain dates.
  1. To determine when you buy, you follow the markets. This market analysis is not aimed at forecasting. You don’t look at fundamental and technical information to try and forecast what the price will do in the future, you are only interested in what it is doing now. When the markets are falling, you don’t do anything. You only buy when the market has turned around after a period of falling prices. We call this “buying the dips”.
  1. But of course, markets don’t fall and rise in straight lines, they go down a few days, have a little uptick, than fall again, rise again, etc. This means you are constantly confronted with a dilemma: is this the definitive turnaround of the market or just a temporary uptick? Most buyers are solving this dilemma with forecasting. They look for information that predicts whether the market will continue to rise or whether it will fall again. Sometimes (best case: 50% of the time), they will get it right. But in all other cases, they will either buy too much on a temporary uptick or miss the definitive turnaround.

An energy risk management approach to buying energy means a totally different approach to the uptick versus turnaround dilemma. When making a price fixing decision, you should adopt a 50/50 approach. The chances that markets fall again the next day are exactly as high as the chances that they will continue to increase. This will inspire you to fix prices prudently, step by step. Let’s say that your energy risk management policy allows you to fix up to 50% of an annual volume in a certain moment. You could carve this up in four 12,5% tranches. When the market turns around, you fix a first 12,5% tranche. If it continues to go up, you fix another 12,5% tranche, and so on until 50%. If it drops again, you don’t fix anything and you have only 12,5% fixed on a temporary uptick.

This active energy price management approach produces excellent results. It allows a company to achieve pre-defined energy risk management goals. And because you make your fixings when markets turn around and not in the middle of downtrends, you’ll produce good results versus the market. A disciplined application of energy risk management, always spreading decisions and never make too large fixings because you think you know where the market is heading, will avoid energy trading disasters.

Hands-on active energy price management is definitely a great solution for budget risk customers. They can visualize their commodity costs for energy in the next years and then take the price fixing decisions based on goals, e.g. in a rising market: don’t let your cost increase by more than 10%. Or in an opportunity moment: cement a budget reduction by buying forward. For a budget risk client, this is a better approach than hands-off as you take your future costs in your own hands rather than let them randomly depend on how the market average prices you are buying are moving.

You can take your energy trading to a next level by adding an extra tool to your active energy price management toolbox: the selling of previously bought forward positions. If well-executed, this can definitely lead to great results, but it’s not the miracle solution that many consultants and portfolio managers try to sell you. Moreover, if you adopt the buying and selling approach with forecasting, you are doubling the financial impact of the 50% cases in which the forecasts are wrong (best case).

For market risk customers, the hands-off approach is excellent for achieving the main energy risk management goal, i.e. never have a price high above the market average. Active energy price management for them means the buying and selling of small extra volumes in opportunity moments in an attempt to do better than those market averages. It’s up to every company to decide whether to go that extra mile or not.

75% of the buyers: you can’t predict energy prices, but I want a forecast when I take an energy trading decision

 Like we’ve said, there is only a very small fraction of the energy buyers that we talk to that believes you can predict future energy prices. However, a large majority of them cannot imagine that they take decisions to fix, not fix or unfix without some kind of forecast. This makes no sense. Why would you base your decision-making on a technique of which you acknowledge yourself that it doesn’t work?

The use of forecasts is deeply embedded in the business world. It has its roots in deterministic economics. Economists try to upgrade their science by making it look as exact as physics or mathematics with laws that produce correct predictions again and again. This branch of economics is often taught in business schools. And it is sold to businesses by consultants in the shape of forecasting services. They are either based on the guru status of the consultant or on a sophisticated-looking mathematical model.

Albert Einstein taught us that even in physics forecasting will not always work (I’m not going into the details of quantum physics to explain this). And in mathematics, we have chaos theory. It still believes in a deterministic physical reality, there is a set of initial conditions that determines the outcome. But this reality is so complex that it is impossible to trace that chain of causal effects. The butterfly effect describes how a small change that is impossible to trace can have large consequences. A butterfly flapping its wings in the forest in Brazil can cause a tornado in Texas.

The butterfly is an excellent metaphor to illustrate the complex, chaotic environment of energy markets. Forecasting systems will invariably over-simplify this, leading to wrong forecasts. But as human beings, we are so allergic to the uncertainty of unpredictable chaotic environments like energy markets that we keep buying the false certainty of forecasting.

I think about a recent meeting with the energy buyer of an international food company. He told how every month their board had a presentation by a professor that gave his vision on the world economy and how it would affect pricing of diverse commodities. Decisions to hedge were then based on that vision. So, we commented: “if the professor gets it wrong, the economic health of a company with thousands of employees will be affected”. “He is very clever, he gets it right most of the time”, was the energy buyers’ answer …

I also think about other meetings during which energy buyers’ acknowledge that forecasting doesn’t work. However, they buy forecasting services and base their energy trading decisions on it, because then they know why they took wrong decisions … Some even said: “we then have a consultant to whom we can transfer the blame” … I’m sorry, I’m a consultant that respects his job and I will never sell myself as a scapegoat.

It’s all the more sad that so many energy buyers keep holding on to forecasting even if they know that it doesn’t work, because they don’t need it. The active energy price management approach described above produces excellent energy trading results. It is simply a much more rational approach to buying energy than holding on to the false certainty of forecasting. It’s E&C’s mission to convince large energy consumers of that and help them to implement an energy trading practice that is not based on false forecasting.

More information on how to deploy buying and selling can be found here or contact benedict@eecc.eu for receiving our whitepaper on this topic.

US LNG: a long expected arrival for the European energy markets

In the last months, we have seen an important increase in the number of ships bringing US LNG to Europe.  8 ships unloaded US natural gas in Europe in the first two months, compared to 5 in the whole of 2016.

European energy markets have been eagerly awaiting the arrival of US LNG. In 2010 – 2012 the Henry Hub prices were pushed lower and lower towards 2 dollars per MMBTU. Seeing how they paid more than twice that amount for consuming gas in Europe, European energy consumers had a hard time grasping what was going on.

“Shale gas”, all of a sudden the magic word was pronounced in all corners. The perfection of the technology to produce gas from shale rock layers, the so-called hydraulic fracturing or fracking, caused US gas production to rise significantly. At first, Europe was hopeful that it could imitate that energy production miracle. Countries like Poland and UK started to explore the possibilities of producing shale gas from their soils. However, we haven’t seen much of European shale gas yet. Most projects faltered in a combination of geological and bureaucratic challenges.

And then the US started to talk about exporting gas as liquid gas, LNG. A strange turn of events, as a few years earlier, the US had started to construct terminals to import gas. Now, these projects were turned around and export terminals were planned, permitted and construction started. This sparked hopes in Europe that this US LNG could bring prices down to a level that is more in line with the US. Sabine Pass in Louisiana was the export project that made the most rapid progress.

As European energy companies signed contracts with US counterparts to import gas and the construction of Sabine Pass progressed smoothly, European forward gas prices turned euphoric. By the 7th of April 2016 the year ahead price on the benchmark TTF Hub dropped as low as 13,02 euro per MWh, their lowest level since December 2009. However, as of April, the bull trend seen in other energy markets hit the European gas markets as well, with a peak of 18,505 euro per MWh for year ahead TTF on the 30th of December.

What had happened? On the 24th of February, the first boat with LNG left Sabine Pass, to sail to Brazil rather than Europe. In hindsight, it makes geographical and economic sense for LNG ships leaving in Louisiana to sail to South-America rather than Europe. And so did most of them. Of the 45 cargoes that embarked from Sabine Pass in 2016, 26 had Latin-America as their destination, compared to only 5 for Europe (Source: Timera). The expected flood of shale gas hitting the European market didn’t materialize.

However, we see a remarkable reverse of this trend in 2017. In January & February, we already saw 8 ships with US gas. All in all we see an important increase in the total number of shipments, with a total of 30 in the first two months of the year. We clearly see the effect here of the fact that a second and third train are now available for exports. With 7 ships, Latin-American imports of US gas remain stable. The biggest winner of the larger amounts of gas in Sabine Pass is Asia with 12 cargoes coming their way.

The TTF forward price is dropping again, with 16,145 euro per MWh on the 21st of March. It’s always dangerous to pinpoint cause and effect in energy markets though. The gas market is dropping in line with other energy markets. However, it should be remarked that pricing in gas markets is made ‘on the margin’, a few boats of gas more or less can mean the difference between excess or shortage that has a heavy impact on the prices. It’s too early to call “Hurray”, but it definitely is a good thing that more US LNG is finding its way to Europe, if only from a diversification of supply point of view.

It should be remarked that further expansion of US LNG export capacity is planned, in Sabine Pass and other places. A total of 89 billion cubic meters (bcm) is due by 2021, compare that to the 4,2 bcm that the US exported in 2016. Will that drive prices in Europe lower? That’s obviously impossible to say. The LNG market has proven to be very versatile. Shippers easily adapt their routes when prices on another continent are more favorable.

And how about politics under the new Trump administration? It looks like Mr. Trump’s main economic policy goal is to restore the US trade balance. Producing large amounts of energy and exporting it, would be a great step towards that goal. His decisions regarding permits to produce seem to support that. However, how will protectionist Donald Trump react if increased exports towards the higher priced markets in Europe pushes up prices for US gas consumers?

 

Green energy supply: source or invest?

A growing number of companies adopts renewable energy goals and commits to green energy supply. Top of the bill might be Ikea, that has committed to produce as much renewable electricity as it consumes in its industrial sites, storage sites and shops by 2020. Apple is approaching the 100% renewable electricity supply rapidly, and was already at 93% in 2015. And here’s just a handful of famous company names that have committed to the symbolic 100% renewable electricity supply by 2020 target:

Swiss RE, Bank of America, BMW, British Telecom, Coca Cola, Goldman Sachs, ING, La Poste, Phillips Lighting, Sky Entertainment, UBS, Unilever

(These names and much more information on corporate renewable energy efforts can be found on the RE100 website.)

With a climate change denying Trump administration in the US, one could easily be pessimistic about the prospects of greening the world’s energy supply. However, I believe that the renewable energy revolution is a train that is rolling and can’t be stopped in its tracks:

  1. A large part of the public is convinced that climate change is a real problem. Companies feel a pressure to present green energy credentials to clients, current and future employees, investors, or they just go green because of an inborn sense of social responsibility.
  1. The costs of building renewable energy generation has dropped spectacularly. Energy from windmills now costs between 52 and 110 euro per MWh, according to Wind Europe. That is 48 to 102 dollars at the current exchange rate. Electricity from photovoltaics looks even more spectacular. According to the International Renewable Energy Agency, a project in Dubai that was commissioned in May 2016 will produce power from the sun for a cost as low as 30 dollar per MWh.

In many places in the world, the all-in cost of consuming electricity from the grid is higher, making it profitable to generate on-site green electricity rather than buying from the grid.

For feeding the green electricity into the grid, the 110 euro per MWh needed for some windmill projects, might still be too high for the investment to make business sense. Subsidies and governments willing to grant them to windmills and solar panels might still be needed for the time being. But then the energy industry has always been subsidized. The UK will pay EdF 92,50 pound sterling per MWh for building a nuclear power plant at Hinkley Point, that’s a 107,54 euro per MWh. Isn’t that money more wisely spend on windmills?

Renewable energy is also playing a crucial role in bringing electricity to poor countries. Access to green electricity in remote regions, isolated from reliable grids, can be crucial for those regions’ development. The recent acceleration of growth of renewables in developing countries is likely to continue.

If Donald Trump thinks that his skeptic approach to greening energy supply is part of his businessman’s attitude to the presidency, then he is mistaken. A 21st century businessman integrates green energy supply goals in his corporate strategy, because they make business sense. As an energy buyer, the chances that you will be asked to buy green energy are increasing and they will continue to do so, whether Mr. Trump is in the White House or not.

Getting that question on greening the energy supply confronts the energy buyer with an important dilemma:

Will you go green by sourcing green electricity from the grid or by investing in your own green electricity production? To give an answer to this question, we have to make some considerations:

  1. The physics and logistics of electricity supply make it difficult to label

Many years ago, we researched the green energy options of a client of ours. One of their team members kept insisting that he wanted proof that the green electricity was coming from a particular windmill near their factory. Due to the physics of electricity it’s impossible to do this. You cannot produce MWh’s in your windmill and attach a label to them saying: “Electricity from windmill so-and-so, to be delivered to company so-and-so”.

Electricity supply works by keeping the tension on the grid at a constant level by injecting as much electricity into the grid as the end-consumers are collectively consuming. But there is nothing that is physically being moved from place A to B. Therefore, it is impossible to say where the MWh’s that you consume were produced.

To deal with this, systems such as the European ‘certificates of origin’, have introduced a double marketing system. Producers of green electricity in Europe receive a certificate of origin. This is a piece of paper that says that a MWh of electricity was produced by a windmill, solar panel, by hydro, geothermal, biomass, etc.

The green electricity producer will sell electricity twice. The product itself (often called the “grey electricity”) goes to the grid at market prices. Next to that, the producer will make some extra income by selling the certificates of origin in a separate market.

Energy suppliers buy these certificates and bundle them with the physical MWh’s that they supply in green electricity products. That doesn’t mean that the power you consume comes from a particular windmill or solar panel. It means that as a consumer you have made an extra investment to support renewable energy. Some consumers have taken the labeling logic a step further by buying certificates of origin themselves in quantities equal to their physical consumption.

  1. Green comes in many shades

More than 20 years ago, I read a book of which I vaguely remembered the title to be “Grass instead of atoms”. It envisioned a future in which all of the world’s energy would be supplied by biomass. The theory was that biomass is carbon-neutral, as the carbon dioxide produced by burning the plant material would be compensated by the CO2 sucked from the air by the growing plants. Green activists embraced the biomass idea heartily.

Twenty years later, the world and definitely the green movement has grown much less enthusiast about biomass:

  1. Due to its low calorific content, you need a lot of plant material to produce a reasonable amount of energy. This causes huge logistic problems.
  2. Not the least of it being the huge amounts of land that you need to produce sufficient biomass for supplying the world with energy. Land that in many cases could be used better to grow food. And land that was sometimes won by cutting down valuable, bio-diverse and more carbon-sucking rain forest. Next to that there are the environmental issues caused by monoculture. Very rapidly, we discovered that the world would not be better off if the whole equatorial zone was transformed into a massive palm oil plantation.
  3. The theory of the carbon-neutrality of biomass can be challenged, especially if you cut rain-forest to plant palm oil and when you ship your biomass halfway across the globe.

Many well-intentioned biomass projects have ended in a public relations nightmare due to the questionable environmental credits of burning plant material. To investors’ horror the environmental groups that push for more green energy are often the first ones to raise protest against specific projects. Think about the many times local green activists have raised protests against the construction of a windmill.

The certificates of origin are granted to any green electricity project, regardless of its real environmental merits. If you consider going ‘deep green’, you might make some extra investments by buying some higher quality certificates.

  1. Buying green electricity is very cheap

In Europe, you can currently buy certificates of origin. That is very cheap. The reason for this low price is simple: demand is lower than supply. Every MWh of green electricity produced in Europe gets a certificate. At this moment, 29% of all electricity produced in Europe is green (2015 data coming from Agora Energiewende). As long as all the citizens, companies, public authorities, etc. that buy green electricity consume collectively less than 29% of all electricity consumed in Europe, the demand for green electricity will be lower than the supply. Hence the low price of buying green electricity.

If your only interest in buying green electricity is “green-washing”, getting the paper on the wall to say that you buy green so that you can satisfy the customers that are asking for it, the low price of green electricity is good news. However, many customers have a more genuine interest, more serious intentions of making a valuable contribution to the environment. For them, just spending a few ten thousands of euros or dollars on certificate-buying will not be very satisfying.

Moreover, a public relations catastrophe is looming again. Environmentalists are increasingly aware of how easy and cheap it is to claim ‘100% renewable electricity’ by buying certificates of origin. Clients that involve NGO’s in their sustainability policy (e.g. through the WWF Climate Savers initiative), already feel that pressure to do something more valuable than buying 15 cent per MWh certificates of origin.

  1. Not all green electricity is good for the environment

Certificates of origin don’t work as a tool for putting pressure on energy companies to increase their green electricity production. But it works as a system for having companies with green intentions invest money in greenery. Unfortunately, that money isn’t always effective.

An effective investment in green electricity means that less carbon dioxide is emitted. Very often, the money you pay for certificates of origin goes to an old hydro power station or a windmill, solar panel or biomass power station that have been there already for many years. For hydro, wind and solar, the marginal cost of production is 0, meaning that their owners produce the electricity whenever they can. Bringing us to the startling conclusion:

Whether you pay for the certificate of origin or not, the green electricity would have been produced anyhow.

So, your effort to pay extra for the certificates of origin isn’t keeping a gram of carbon dioxide out of the air. You could solve this by buying higher quality certificates. However, if you invest every euro you spend to source green electricity in your own renewable energy production, you are effectively keeping CO2 out of the air. It will mean that a windmill, solar panel or other project gets built thanks to your efforts that pushes fossil-fuel fired MWh’s from the grid. As the investment costs to produce your own energy are so much larger than what you spend buying certificates, it might be financially impossible to achieve the symbolic 100% renewable goal. But the money is spent so much more wisely and with a net better effect on the environment.

  1. Sourcing means spending money without return, contrary to investing

Which brings us to a next observation. Spending money on certificates is just that, spending. Investing money means that you can expect a return on your euros or dollars. On-site renewable energy production is often developed by a third party with a power purchase agreement. In many cases you will receive a fixed amount of money for renting your terrain or rooftop. Next to that, you can buy the electricity at a price far below the price at which you buy from the grid. Such projects always lead to savings, and thanks to such third party arrangements without even having to invest the company’s money.

When you invest in off-site renewable energy projects, the return will depend on the particular set-up, and often on the subsidy arrangement. In many cases, renewable energy is an interesting investment as the return is relatively stable and reliable.

  1. What do you want to achieve with your green energy efforts?

As you can read from the observations above, greening your energy takes more reflection than just buying a green power product based on certificates of origin. Investing the money in your own green electricity production is a more valuable approach, both for the environment and for your financial bottom line. However, not every company might be ready to have such large amounts of cash flowing to green power investments.

As an energy buyer, your research of the energy markets can lead to more valuable choices for your company. To determine your approach, it is worthwhile to make a good preliminary analysis of what you want to achieve with your green energy efforts, e.g. through a stakeholder analysis. If you’re just greening to satisfy customers, you might be happy with the certificates of origin. If you also want to prove your green credentials to environmentalists, you might decide to go deeper.

Calculating procurement savings when buying energy

Procurement savings are often the measure of the performance of procurement professionals. In an earlier blog we commented on the risks inherent to this narrow view on procurement. But reporting procurement savings is an inevitable part of a buyers’ job, and why should it be avoided? There is nothing dishonorable about saving money for your employer.

However, when procurement savings are used to measure a buyer’s (or a consultant’s) performance, you better get the metrics right. And in a complex knowledge environment like energy markets, it’s not always easy to be sure that the cost reduction is indeed the result of an individual’s good work. In the past few years, wholesale prices for natural gas and electricity have dropped dramatically. Many buyers have enthusiastically reported the resulting cost reduction compared to the previous year as a cost saving. Now that markets have stopped falling, many are feeling cold sweat about how to report the year-to-year evolutions. Here’s our vision on how purchasing cost savings due to energy buying should be reported (and how not).

It starts with an analysis of what an energy buyer is doing and what procurement savings he can generate with those activities:

  1. Energy contracting,
  2. Energy trading activities (forward fixing or not fixing & unfixing activities),
  3. Energy controlling,
  4. Special projects.
  1. Energy contracting

Generating savings by negotiating better contractual conditions is a traditional activity of professional buyers. It is important to get a clear view on what improvements have actually been made thanks to the buyers’ activities. The energy price consists of three components:

  1. The wholesale value of the gas or electricity, or the price at which the energy is secured by your price fixing actions,
  2. The retail add-on, which is the add-on cost added by the supplier to go from the wholesale products, which are flat capacity blocks, to the specific load profile consumed by you as a client with its ups and downs,
  3. The grid fees and taxes.

What your wholesale value will be is not decided by your negotiation skills, but purely by the moment at which you are closing it. And grid fees and taxes are in most cases charged on a pass-through basis, meaning that you pay the amount at which they have been set by the regulator and not what you negotiated. Therefore, the only part of the energy bill that you can influence during the contract negotiations is the retail add-on.

Now, if we look at the kind of simple TTF or other Hubs plus add-on contracts that are often negotiated in today’s gas markets, we can easily explain how a saving can be reported. Let’s say that you currently have a contract with a formula TTF + 0,7 euro per MWh and that you negotiate a new contract for 2017 with a formula TTF + 0,4. Then it becomes clear that thanks to your negotiation, your company will save 0,3 euro with every MWh that it consumes in 2017.

However, the calculation isn’t always that simple. In a country like Belgium, suppliers are not charging transportation costs on a pass-through basis but apply reductions to the official tariff. In that case the reduction on transportation should be part of the savings calculation. And for electricity, the retail cost is often based on a complicated formula to go from wholesale to retail price. However, by plugging the same wholesale values in the different formulas, the implied add-on costs can be calculated and compared. In the same way, the implied add-on cost of a fix price contract can be calculated by comparing the retail price that was signed to the wholesale value for the relevant period on the day that the fix price contract was signed.

  1. Energy trading

Unfortunately, the performance of buyers regarding their decisions to fix, not fix or unfix forward pricing is often judged based on a year-to-year comparison.  In the past years, with markets going down, that worked out favorably. But what will buyers report in a bull market?

Moreover, if you acknowledge that the savings metrics should reflect the positive results of a buyer’s work, than you should not report every drop in the wholesale value of your energy as a saving. You can be a very good buyer, but you’re not the one that determines whether the market goes up or down. Moreover, if the wholesale price goes down from 40 to 20 and you fix at 35, you might report a saving, but you’re not doing a very good job. In any case, a worse job than someone who fixes at 25 when the market goes up from 20 to 40.

Some organizations might conclude that no added value can be created with energy trading. That is not true. When we look into the performance of companies that we haven’t advised, we see remarkable differences in the quality of the wholesale price management. You’re doing a good job if you:

  • Spread your fixing decisions, so that you don’t fix too much when you’re completely on the wrong side of the market. If you fix a lot in one moment, you might also do this at a very good moment, but that is more due to luck than skill, as markets are unpredictable. Moreover, by fixing too much in one moment you are taking too much risk.
  • Don’t fix in a falling market, don’t unfix in a rising market. It sounds simple but most energy buyers completely ignore this basic rule and end up with having fixed too much too soon in a downtrend.
  • Follow up the market actively, so that you make small fixings every time when a low has been reached and markets start to increase again. Equally, unfix in small portions when markets have reached a peak and start to fall again.
  • Have an efficient decision-making process, so that you don’t lose opportunities because it takes you days to make a fixing or unfixing.

If you apply these principles, your price fixing will have good results. These results can be evaluated by measuring them against a market benchmark. Let’s say for example that you are fixing prices in different moments during the year prior to the year of consumption. You could always choose to just buy the average year ahead price, meaning that if your price is higher than that average, the results of your price fixings are negative. You could have better not done any fixings and take the average year ahead price. On the other hand, a price below the average means that you have added value that can be expressed as a procurement saving of the market average minus the price.

You can fine-tune your market average that serves as a benchmark with your global energy strategy goals. Let’s take the example of a client of ours that is a producer of energy-intensive chemical commodities and the pricing of its products is going up and down with spot natural gas markets. Their strategy is to make fixings and unfixings for small volumes, in an attempt to ‘beat the spot market’. In this case we chose the spot market as a benchmark.

Another example is a client in the automotive sector. As prices for its products are fixed for several years, e.g. in seven-year contracts with the car manufacturers, the main goal is to achieve cost stability. Running a diverse portfolio of contracts with car manufacturers, we have chosen to run this cost stabilization strategy in a three-year forward timeframe. When markets reach lows, we make larger fixings for those three years into the future at the same moment. Moreover, we have a strict observance of a maximum year-on-year cost increase of ten percent. In this case, we are using the average three-years ahead price as the benchmark for the performance of this client’s energy trading activities.

The choice of the right benchmark is very important. If the automotive company would choose the spot market as a benchmark, its energy buyers would perform less well. They would be “scared” of making forward fixings, as that jeopardizes the chances of beating that spot market benchmark. Which would mean that they have difficulties achieving the primary goal of cost stability.

You can’t expect to fix prices below market average on every contract for every single year. Sometimes you will fix prices for part of the volume in what was just a temporary uptick, with prices diving even deeper afterwards and your price ending up above the market average. Or you have to take a protective price fixing in a rising market.

The solution for this is to spread your price fixing decisions as much as possible, but that diminishes your chances of having a price well below market average. Therefore, skillful price fixing will strike the right balance between spreading enough to avoid prices high above market average and still make opportunistic (un-)fixings that lead to a price below average.

In a more general sense, in its energy trading efforts a company needs to strike the right balance between managing risk (i.e. spreading fixing and unfixing) and making savings (opportunistic fixing and unfixing) to be successful. A company that puts too much pressure on its buyers to make savings, might end up in the disaster of having taken too much risk. A company that puts all the emphasis risk management only, might forego interesting opportunities to lower its costs.

  1. Energy controlling

The involvement of energy buyers in the controlling of energy costs can differ widely. In some companies, the buyer is responsible for setting up budgets, checking cost versus budget and validating bills. In other companies this is done by the financial controlling department. When buyers are involved, management will often want to see results of the energy controlling in terms of savings.

Defining savings through energy controlling is quite simple. For example: the buyer checks the bills of one of his US plants and finds out that the wrong utility rate is applied. He writes a letter, conducts negotiations and in the end a 350.000 dollar refund is granted and paid to the client. This can be reported as a 350.000 dollar saving.

Some companies might have reservations for calling this a saving. It is a rectification of a mistake, a refund of money that the company shouldn’t have paid in the first place. On the other hand, if the energy buyer hadn’t done his job properly, the mistake might have passed undetected and the 350.000 might have never been returned. For the buyer, reporting the 350.000 might be a great success, especially if he has a bonus arrangement based on savings. On the other hand, he needs to realize that such successes depend on being “lucky” that your supplier or utilities send out wrong bills. For the company’s cash flow, receiving a correct bill in the first place and not getting refunds is the better option.

The buyer and his company should also realize that not all mistakes will lead to a refund, they might also lead to an extra bill. From our energy controlling activity, checking thousands of energy bills every month, we can say that 50% of the mistakes in energy bills are to the advantage of the clients. The 350.000 dollar extra bill sent by the utility that has detected its mistake, will obviously never be accepted as a “saving” … However, if the energy buyer detects that mistake, he’s doing a good job, as he can help his company to put aside the money for when the correction comes in.

Putting too much emphasis on savings through the financial controlling activities can also lead to over-opportunistic behavior. This is a particular danger when such controlling services are delivered by a consultant on a no cure – no pay basis. Of the mistakes that we detect in energy bills, some 60% are “differences in interpretation” rather than real “mistakes”. An opportunistic buyer or consultant might hurry into declaring that difference in interpretation a mistake so that she/he can claim the saving. This leads to the reporting of fictitious mistakes and paying of pay for a cure for a problem that wasn’t a problem in the first place. Moreover, aggressive claiming of mistakes can antagonize suppliers without need.

An example will illustrate this. We once took over a client from another consultant that had been working on a no cure – no pay basis. For its French plant, the client had signed a natural gas contract in which it had agreed to pay a fixed amount every month for transportation of the gas. The agreement stated that at the end of the year, the real cost of transportation, based on the official tariff would be calculated and an invoice or credit note to settle the shortage or surplus amount would be sent.

In July, the consultant calculated the amount that was due according to the official tariff, found out that it was lower than the fixed amounts that had been billed, sent a letter to the supplier to claim back the surplus money that had been paid to the supplier and an invoice to the client for the 50% commission on this so-called “saving”. Needless to say that both supplier and client were not very happy with this behavior. However, in a company where the buyer is receiving a bonus when reporting savings by energy controlling, that buyer might be tempted to work together with the consultant in claiming the saving.

  1. Special projects

Energy buyers can be involved in many different projects that lead to cost savings, such as:

  • The implementation of auto-production, e.g., a CHP unit or a PV-installation.
  • Filling in forms to get a reduction of a regulated price component, e.g. the EEG tax in Germany.
  • Setting up a demand-response program to benefit from the highs and lows of spot markets.
  • Marketing of interruptible load to benefit from a capacity program.

Calculation of the savings caused by such special projects is to be determined on a project-by-project basis. Such calculus will always be based on a “before” and “after” situation. It should be taken into account that the world of energy markets is very dynamic with all factors changing continuously.

To give a – at first sight – simple example, a PV project. The saving might be calculated by simply saying: “last year we paid 1,5 million euro, now, we pay 1 million, so we made a 500.000 euro saving thanks to the solar panels on our roof”. However, it could be that in the current year, the wholesale electricity market dropped, causing the cost of the remaining power that you consume from the grid to drop by 300.000 euro. Therefore, the saving thanks to the solar panels is 200.000 euro rather than 500.000. A better measurement of savings could therefore be to take the amount of energy produced by the solar panels and multiply that by the price that you paid for the remaining off-grid electricity.

And even that isn’t correct. Due to installing the solar panels, what you pay for add-on cost and usage of the grid will have increased. If you’re very good at interpreting energy cost components, you might be capable of calculating that this means you paid 25.000 euro more for the electricity than you would have paid without the solar panels. Meaning that the real saving is 175.000 euro. As you can see from this example, savings metrics in energy buying is never a straightforward matter.

The involvement of the energy buyer in such special projects might be anything from having initiated them, to be involved in all steps to just getting called in when the contract has to be signed. Too much focus on making savings, can lead to this ‘being called in at the last moment’ phenomenon. Too many companies still consider their procurement professionals as the people you call in to squeeze out a price concession. That’s a pity, as involvement of procurement from the very first steps in a project will lead to much more added value, as they can help to:

  • Make a better analysis of the needs.
  • Have a broader view of the market in which the project can be bought.
  • Keep potential suppliers and project partners sharp from the very first moment.
  • Tender competitively instead of getting heavily involved with just one potential project partner.
  • Have a better view on the structure of energy costs so that the calculation of the savings and payback of a project is more realistic.

Having procurement professionals involved in special projects can increase the savings that they cause. But again, too much emphasis on those savings can lead to sub-optimal results.

Conclusion: be pragmatic when applying procurement savings metrics in the field of energy buying

From the examples given above, it must be clear that the usage of savings in energy procurement is a delicate subject. It is impossible to set up a system for measuring savings that makes sure that every 1 euro savings reported by the buyer results in 1 euro extra for the company’s financial bottom line. Moreover, a good energy buyer will have many added values that are not measurable. Too much emphasis on reporting savings can cause such intangible added values to be neglected.

On the other hand, saving money for their organizations should always be the fundamental driving force of procurement professionals. In this article we have given some ideas of how pragmatic energy procurement savings metrics can be implemented. Applying them will motivate your energy buyers (and consultants!). However, be aware that such measurable savings are not the only added value that they can deliver.

La ola de frío hace estragos en el mercado energético español

Prefer the English version? Please find it here.

Los mercados energéticos españoles se comportaron de forma inestable la semana pasada. El jueves 19 de enero, el precio de la electricidad para el día siguiente cerró en 88 euros por MWh, este es el nivel más alto alcanzado desde el 6 de febrero de 2006. El nuevo Hub de gas natural, Mibgas, también alcanzó un máximo llegando a los 41,87 euros por MWh los días 12 y 13 de enero.

Hace frío en España y los turistas en busca de un clima agradable en invierno están siendo sorprendidos con tormentas de nieve y heladas. Las circunstancias siberianas son excepcionales y obviamente causan un pico en la demanda de electricidad y gas. El sistema eléctrico ha encontrado dificultades para hacer frente a este pico. En la Comunidad Valenciana 32.000 clientes se quedaron sin electricidad y la eléctrica Iberdrola tuvo que poner en marcha 23 generadores de emergencia.

Álvaro Nadal, nuevo ministro de Energía, advirtió a los ciudadanos españoles en un comunicado de prensa que se fueran acostumbrando a una energía más cara. El ministro cita todo tipo de argumentos para justificar los actuales precios, junto al aumento de la demanda de calefacción, señala también paradas nucleares, mayores exportaciones a Francia, baja producción de energía eólica y solar, mayor precio del crudo y un alto precio del gas natural. La situación actual muestra una tendencia muy alcista, pero los altos precios de la electricidad y el gas natural en España no son sólo un fenómeno de este invierno. Los mercados energéticos españoles son más caros que otros mercados europeos desde hace años.

Respecto a la electricidad, podemos ver que los precios spot españoles se alinearon con los precios spot alemanes hasta 2014, cuando comenzaron a subir estructuralmente. Los analistas señalan a menudo el alto porcentaje de energía renovable en España para explicar los altos precios de electricidad. Según datos de Red Eléctrica, el 49,9% de la capacidad de producción de energía eléctrica en España es renovable. El viento no siempre sopla y, hasta en España, el sol no siempre brilla, haciendo que los precios del mercado de día siguiente se eleven algunos días y los acontecimientos del último día parecen apoyar ese análisis.

Sin embargo, Alemania tiene un porcentaje aún mayor de energía renovables en el mix de capacidad de producción: un 52,43% de acuerdo con los datos de https://www.energy-charts.de/power_inst_de.htm. En Alemania, un volumen creciente de energías renovables en la red ha tenido un claro efecto beneficioso sobre los precios de la electricidad al por mayor. ¿Por qué no hemos visto el mismo efecto en España?

La situación actual de altos precios y apagones en algunas regiones parece señalar que en España hay escasez de capacidad de producción de energía. Sin embargo, como podemos ver en la página web de Red Eléctrica, el viernes 20 de enero la demanda alcanzó un máximo de 40.294 MW, esta cifra es muy inferior a la capacidad de producción total de 100.088 MW estando incluso por debajo de la capacidad instalada de producción tradicional de energía térmica (carbón y gas), que se sitúa en 41.154 MW. Además, en el momento de mayor demanda, las centrales nucleares españolas producían 7.100 MW, las centrales hidroeléctricas 6.168 MW, las turbinas eólicas 5.007 MW y las centrales fotovoltaicas 675 MW. Sumando estas cifras, realmente no se entiende el por qué los precios subieron tanto.

omie vs eex.png

Es cierto que el equilibrio entre la oferta y la demanda en España está cada vez más ajustado. Con una economía en recuperación, España registra un aumento de su demanda de energía de 0,8% en 2016. Al mismo tiempo, la capacidad de producción cayó un 0,9%, debido al cierre de centrales de carbón. A pesar de ello no olvidemos que la situación general sigue siendo muy cómoda en comparación con otros países europeos como Bélgica o Francia cuando tienen centrales nucleares cerradas.

Entonces…¿Por qué los precios españoles son más altos?

Los productores de energía españoles parecen ser incapaces de entregar a la red una electricidad fiable y con un precio razonable. Los 194.530 MW de potencia disponible en Alemania produjeron 648,2 TWh de electricidad en 2016. Esa es una utilización del aparato de producción de 3.322 horas, siendo mucho mejor que las 2.500 horas de los productores españoles, con 100.088 MW de capacidad instalada produciendo sólo 250.266 TWh. Una vez más, el alto porcentaje de energía renovable en España no es una excusa, ya que Alemania tiene un porcentaje aún mayor.

El ministro Álvaro Nadal debería aprovechar la situación actual para hacer un llamamiento a los productores de energía y exigirles que mejoren su rendimiento. Por otra parte, como hemos mencionado antes, los sistemas que organizan la oferta de energía española y la logística de la demanda son bizantinos y disfuncionales. Súbase a un avión señor Nadal y vea cómo otros países europeos lograron organizar mejor sus mercados: una mejor organización que resulte en una mejor utilización del parque de producción de energía y menores precios de los productos básicos para los consumidores finales.

La semana pasada se podía escuchar en las noticias españolas que los altos precios se debían al uso de “costosas” centrales de gas de ciclo combinado. Sin embargo, en el momento de máxima demanda el viernes pasado, sólo había 2.229 MW de ciclo combinado en operación, lo que representa menos del 10% de la capacidad instalada total de 24.948 MW. Es un hecho, sin embargo, que el costo de producir electricidad con una central eléctrica de gas es mucho más caro en España que en otros países. Esto se debe al alto precio del gas en España.

La mayor parte del gas natural en el mercado energético español aún se comercializa a precios indexados a los mercados petroleros. Los recientes aumentos de los precios del petróleo han provocado por tanto un aumento de los precios del gas en España. Si nos fijamos en los precios de los otros mercados europeos, determinados por los hubs como el TTF donde la demanda y la oferta de gas natural fijan el precio, diríamos que el desarrollo del Mibgas en España es una excelente idea. Sin embargo, una idea sólo es buena cuando está bien ejecutada.

El verano pasado, vimos los precios del hub ibérico Mibgas operando a un nivel similar al TTF. En mayo y junio de 2016, incluso vimos un precio de Mibgas más bajo que el TTF algunos días, lo que generó esperanzas de que finalmente veríamos unos precios normales de gas en España. Sin embargo, a partir de agosto, el precio de Mibgas comenzó a subir por encima del TTF. El 13 de enero, el precio de Mibgas fue 21,14 euros por MWh más caro que el TTF u otros precios del norte de Europa.

ttf-mibgas

Los abastecedores españoles de gas (y los analistas que lo apoyan sin argumentos) apuntan dos razones que causan esta situación:

  1. El hecho de que los buques de GNL provenientes de Argelia por ejemplo, en lugar de llegar a la península Ibérica hayan decidido navegar a otros destinos como Asia, donde los precios del gas son actualmente altos.
  2. La falta de capacidad de interconexión con Francia y los precios del Norte de Europa.

Sí, los precios asiáticos están reduciendo las exportaciones de GNL a Europa. Pero los 41,87 euros por MWh que encontramos en España a principios de este mes, fue el precio más alto de gas natural en todo el planeta en ese momento, así que ¿Por qué los buques no llegaron a España?

Por otra parte, la reducción de gas natural licuado debido a la alta demanda asiática afecta de la misma manera al TTF, así que ¿Por qué el precio en España es más del doble que en el norte de Europa?

La falta de conexión por gaseoducto hacia el Norte es también un hecho, pero no hay ningún país en Europa que tenga tanta capacidad (no utilizada) para importación de GNL como España. Sólo hay 1.305 kilómetros por mar entre los puertos de Zeebrugge y Bilbao.

El 13 de enero, un comerciante podría haber ganado 21,14 euros por MWh al cargar GNL en Zeebrugge y descargarlo en Bilbao, ese habría sido uno de los trayectos de GNL más lucrativos de la historia, pero ningún barco lo hizo.

España estará mal conectada con el resto del mundo mediante gaseoductos, pero está muy bien conectada con terminales de GNL, el problema es que estos no se están utilizando. ¿Por qué? Porque traer el gas a la terminal de GNL es posible, pero sacarlo de la planta de regasificación y venderlo en el mercado interno español parece ser casi imposible.

España ha sido el último de todos los países europeos en establecer un Hub. Preparándose para ese lanzamiento, España se centró más en cómo organizar los aspectos financieros que los aspectos físicos, pero la parte física es clave. Un Hub debería facilitar el acceso de terceros al sistema de gas mediante el establecimiento de una zona de entrada-salida a nivel nacional y la introducción de un sistema de equilibrio eficiente y rentable. Debido a los altos precios actuales y la falta de liquidez, está claro que Mibgas no ha logrado esto. Una vez más, España ha introducido sistemas que son diferentes de lo que vemos en el resto de Europa. Así que, Ministro Nadal, vaya a echar un vistazo al resto de Europa y arregle este desastre de mercado energético español.

A cold snap wreaks havoc on the Spanish energy market

Spanish energy markets were in turmoil last week. On Thursday the 19th of January, the day ahead electricity price averaged 88 euro per MWh. That is the highest level since the 6th of February 2006. The new Hub market for natural gas, Mibgas, went through the roof as well, racing to 41,87 euro per MWh on the 12th and 13th of January.

It’s cold in Spain. Tourists in search of mild winter weather were caught in snowstorms and frost. The Siberian circumstances are exceptional and obviously cause a peak in demand for electricity and gas. The power system struggled to cope with this peak. In the Communidad Valenciana, 32.000 clients were without electricity and utility Iberdrola had to rush in 23 emergency generators. Álvaro Nadal, the new Minister of Energy is all over the press, warning the Spanish citizens to get adapted to more costly energy.

The Minister is citing all kinds of reasons for the current peaks in prices: next to the increased demand for heating purposes he points out: nuclear shutdowns, increased exports to France, low output of wind and solar, the higher price of crude oil and the high price of natural gas. The current cocktail is indeed very bullish. But the high prices for electricity and natural gas in Spain are not just a phenomenon of this winter. Spanish energy markets are more expensive than other European markets for years.

If we look at electricity, than we can see that the Spanish spot prices were at more or less the same level as German spot prices until 2014 and then started to rise structurally higher. Analysts are often pointing at the high percentage of renewable energy in Spain to explain high spot prices: according to Red Electrica’s data, 49,9% of Spain’s power production capacity is renewable. The wind doesn’t always blow and even in Spain, the sun doesn’t always shine, causing spot prices to rise high on some days. The events of the last day seem to support that analysis.

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However, Germany has an even higher percentage of renewable power production capacity: 52,43% according to data of https://www.energy-charts.de/power_inst_de.htm. In Germany, increasing amounts of renewables on the grid have clearly had a beneficial effect on the wholesale electricity prices. Why haven’t we seen the same effect in Spain?

The current situation of high prices and blackouts in some regions seems to point out that Spain has a shortage of power production capacity. However, as we can see on the website of Red Electrica, on Friday the 20th demand peaked at 40.294 MW. That is well below the total production capacity of 100.088 MW. It is even below the installed capacity of traditional thermal power production (coal and gas), which stands at 41.154 MW. Moreover, at the moment of peak demand, Spanish nuclear power stations were producing 7.100 MW, hydro power stations 6.168 MW, wind turbines 5.007 MW and photovoltaics 675 MW. Adding up the figures, you really don’t understand why prices were soaring that much.

It is true that the supply and demand balance in Spain is getting more tight. With a recovering economy, Spain is seeing an increase in its power demand, +0,8% in 2016. At the same time, production capacity dropped 0,9%, due to the closure of carbon-fired power stations. However, the overall situation still looks very comfortable compared to other European countries like Belgium or France when it has nuclear power stations shut down. Then why are Spanish prices higher?

The Spanish power producers seem to be incapable of delivering a reliable, reasonably priced electricity to the grid. Germany’s 194.530 MW of available power capacity produced 648,2 TWh of electricity in 2016. That’s a utilization of the production apparatus of 3.322 hours. That’s a lot better than the Spanish power producers’ 2.500 hours with 100.088 MW of installed capacity producing just 250,266 TWh. Again, the high percentage of renewable energy in Spain is not an excuse, as Germany’s having an even higher percentage.

Minister Álvaro Nadal would better use the current situation to call upon the Spanish power production companies to improve their performance. Moreover, as we have mentioned before, the systems that organize Spain’s power supply and demand logistics are byzantine and dysfunctional. Get yourself on a plane, Mr. Nadal, and go and have a look at how other European countries managed to get their markets better organized. A better organization that results in a better utilization of the power production park and lower commodity prices for the end consumers.

Last week you could hear in the Spanish news that the high prices were due to the usage of “expensive” combined cycle gas-fired power stations. However, at the moment of peak demand last Friday, there was just 2.229 MW of such combined cycle power stations at work, which is less than 10% of the total installed capacity of 24.948 MW. It is a fact however, that the cost of producing electricity with a gas-fired power station is much more expensive in Spain than in other countries. This is due to the high price of gas.

Most of the natural gas in the Spanish energy market is still traded at prices indexed to oil markets. The recent increases of oil prices have therefore caused Spanish gas prices to increase. If you look at the pricing in the other European markets, determined by Hubs such as TTF where the demand and supply of natural gas itself is setting the price, you would say that the development of the Mibgas Hub in Spain is an excellent idea. However, an idea is only good when it’s well executed.

Last summer, we saw Mibgas prices trading at a level similar level as TTF. In May and June 2016, we even saw a lower Mibgas price than TTF on some days. This sparked hopes that we would finally see normal gas prices in Spain. However, as of August, the Mibgas price started to rise high above TTF. On the 13th of January, the Mibgas price was 21,14 euro per MWh more expensive than TTF or other Northern-European prices.

ttf-mibgas

Spanish gas suppliers (and analysts paying them lip service) point at two reasons for this:

1. The fact that LNG ships from Algeria for example, rather sail to Asia where gas prices are currently high.
2. The lack of interconnection capacity with France and the Northern European prices.

Yes, Asian prices are reducing LNG exports to Europe. But the 41,87 euro per MWh that you could get in Spain earlier this month, was about the highest price for natural gas on the planet at that moment, so why didn’t the ships come to Spain? Moreover, the “less LNG due to high Asian demand” counts for TTF just as well, so why is that price in Spain so much higher than in the North of Europe?

Lack of connection by pipeline to the North is also a fact. However, there is no country in Europe that has so much (unused) LNG import capacity as Spain. There is only 1.305 kilometer by sea between the ports of Zeebrugge and Bilbao. On the 13th of January, a trader could make 21,14 euro per MWh by loading LNG in Zeebrugge and sailing to Bilbao. That must be one of the most lucrative LNG trips in history. But no ships did it.

Spain might be badly connected to the rest of the world with gas pipelines, but it is well connected with LNG terminals. But these are not being used. Why? Because getting the gas into the LNG terminal is possible, getting it out and sell it in the internal Spanish market seems to be all but impossible.

Spain has been the last of all European countries to launch a Hub market. Preparing for that launch, Spain was more focused on how to organize the financial aspects than the physical aspects. Whereas the physical side is key. A Hub should facilitate third party access to the gas system by the establishment of a nation-wide entry-exit zone and the introduction of an efficient, cost-effective balancing system. From the current high prices and lack of liquidity, it is clear that Mibgas has failed to achieve this. Again, Spain has introduced systems that are different from what we see in the rest of Europe. So, Minister Nadal, go and have a look in the rest of Europe and get this mess of a Spanish energy market fixed.

Energy procurement: the bureaucratic versus the entrepreneurial approach

Recently I held a meeting with a customer to define a new strategy for buying energy. The company is a family-owned food producer that has recently witnessed strong growth under the leadership of a new generation of enthusiastic entrepreneurs. In terms of energy procurement we took many excellent decisions in the decade of our collaboration, such as leaving open an increasing part of the pricing to spot indexation in the recent period of price declines. Such decisions were based on the strong risk / opportunity optimization instincts that characterize strong entrepreneurs. However, as the company and its energy spend has grown, the owners feel the necessity of a more formal approach to eliminating risk due to energy market volatility.

During the meeting, we were surrounded by a management team of people trained in larger corporations. Confronted with the question of how much of the volume we leave open to spot price indexation, these professional managers quickly opted for the zero risk solution, meaning in their case that for all production for which sales prices have been agreed with clients the energy price would be hedged, leading to a freezing of the margins. The entrepreneur-owner protested against this, saying that he would feel sorry about the loss of opportunity if markets would go down. This was an excellent example of the tension between entrepreneurialism and a more managerial approach to business and the way it can manifest itself when buying energy.

As companies grow, it becomes impossible to run them based on the enthusiasm and strong instincts of their entrepreneurs. The necessity for more managerial skills grows. In the buying function of a company, procurement professionals are hired and they introduce more structured approaches to buying. Systems are introduced that can track an invoice back to a procurement decision (purchase orders). Decision power is attributed and the authority to purchase is taken away from the users of the goods and services that are bought and delegated to the professional buyers. Formal contract negotiation procedures such as RFQ’s (request for quotations) and RFI’s are introduced. In commodity buying, risk management or other approaches to fixing volatile forward prices are set up. Often, the success of this introduction of professional procurement is measured in terms of savings, which can lead to the introduction of complicated systems for savings calculations.

In many cases, energy is one of the last categories to be brought under formal control. Many companies consider it to be a highly technical category and leave it for a long time with the maintenance or facility management professionals. There is no reason for doing this. Buying energy in an open market is much more challenging from an economic-commercial point of view than technically. I’ve never witnessed a company doing an awful job at energy procurement because its staff members failed to grasp the subtleties of MWh’s versus MW’s. But I’ve seen many companies failing at buying energy because of a lack of understanding of how commodity markets work. Therefore, introducing professional procurement management methodologies can be a blessing for a company’s energy buying practices.

However, too much management techniques can easily derail in a too formalistic approach. Entrepreneurialism, that usage of passion and strong instincts to take the right decisions, disappears and gives way to corporate bureaucracy. I recently had a discussion with the energy buyers of a client of ours, one of Europe’s largest corporations. In this company, a strong procedure for running tenders has been developed that should ensure that the company is always making the best out of the market. However, running this procedure is so demanding that the buyers prefer running bi-annual rather than annual tenders, which would give them better protection in terms of wholesale price hedging. In its worst form, the procurement division becomes a corporate bureaucracy where the instrument of running formal procedures becomes a goal in itself, rather than making the best out of the markets. The system for savings calculations, for example, can easily start to live a life of its own. One client once told us that the first thing their new CEO said in a meeting with the procurement division was: “I want you to stop reporting savings. Why? Well, if all the savings that you guys and girls reported in the last five years had materialized, we would now be paid by our suppliers”.

It’s logic that entrepreneurs that are introducing formal management in their companies revolt against such a bureaucratic approach to procurement. Corporate excellence isn’t founded on “just following the procedures”. A good energy procurement practice will strike a good balance between the professionalism of good procedures and leaving room for talented individuals to take good decisions:

  • Good data management is an indispensable starting point for professional procurement. You can’t be successful at buying energy if your information is stuck in the heads or on the local hard disks of hard-working staff members. However, you should consider efficiency when setting it up. One client once told me that he spends about 70% of his time on internal reporting. Imagine what it would mean for his company if he could bring this down to 40% and actually double the amount of time he has for being informed about the market.
  • Giving some structure to your contract negotiations will make them more effective. However, take into account that energy companies have to produce a lot of offers. If your RFQ procedure becomes too demanding, the account managers might lose their enthusiasm for doing the deal because they have to deviate too far from their standard procedures for making offers. Also, leave some room for good old negotiation. I see many large corporations that go into the market with RFQ’s that are already asking for all the concessions that they want to get. They will get them, but at what price? Negotiating concessions is a much better methodology than writing lengthy, demanding RFQ’s.
  • As a larger corporation, you can’t have the fate of your energy spend determined by the gut feeling of your energy buyer(s). Setting up a good risk management strategy can make sure that nobody will take decisions (or not take decisions) that damage the company. However, within the framework of such a risk management strategy, you should leave room for some opportunistic decision making.

Savings reporting can be a good tool for measuring the success of your energy buyers’ entrepreneurialism when buying energy. However, it isn’t always easy in energy to determine which savings are due to an action by an individual and which are just due to changing market circumstances. But that’s a topic for a new blog article.

Mibgas and its failure to fix the Spanish gas market

On this blog and in conferences, we have repeatedly complained about Spain’s reluctance to fix its gas market. For years now, Spanish end consumers of gas are paying more than consumers in other countries. And we can’t see any good reason for that. Spain’s gas import and transportation infrastructure was drastically expanded in the booming early 2000’s, anticipating a never-ending period of growth of the economy and gas consumption. Instead of that, Spain slumped into a deep recession and in 2015, Spain’s gas consumption was 29% lower than in 2008. As a result, wherever you look in Spain’s gas system, you will find excess capacities. So why on earth doesn’t this result in lower prices?

Many Spanish gas suppliers will point at the limited capacity on the French-Spanish cross-border pipeline. Yes, this means that only small quantities of gas can float directly, through a pipeline, from the cheaper markets in the North to Spain. However, only looking at this pipeline is a very shallow look, especially if you consider that most of Spain (and Portugal’s) gas comes in through LNG ships. As a matter of fact, no other European country has such a large LNG import capacity. Most of the terminals are used at very low percentages of their capacities. And still, lots of LNG ships are sailing past Spain without unloading the gas, taking it to terminals further North to sell it at a price far below what they could get in Spain. They are sailing hundreds of extra, expensive miles to unload at a lower price. In September, the average spot price of gas in Spain was 4,6 euro per MWh higher than in Zeebrugge in Belgium. Why didn’t anyone cash in on that spread by loading gas in Zeebrugge and unloading it in Bilbao? Why isn’t the market with the highest end-consumer price in Europe and the highest amount of unused import capacity flooded with LNG?

Traders answer us: we can get the gas into the Spanish ports, but we can’t get it out. The Spanish government has failed to implement gas market policies that guarantee third party access to the Spanish gas grid. The system makes it possible for incumbent suppliers to sit on unused capacities on key infrastructure just to keep newcomers out. And it creates a lot of risk for traders that don’t have access to huge physical quantities of gas within the country. For a little while we were hopeful that things might change with the introduction of the Hydrocarbon Law in May 2015. It resulted in the launch of Mibgas, a Hub market for gas in Spain. In the middle of this year, we saw prices on this Mibgas drop towards the levels in the North of Europe (TTF). But in the last month, the gap has widened again. Mibgas prices are now trading well above TTF level. In October, the gap was reduced a bit, but that was because of TTF rising, and not Mibgas falling. And, despite the obligation for suppliers to balance their portfolios using the Mibgas spot market since October, volume has picked up only slightly. 

Spain is currently without a government that can fix this mess. On behalf of all gas consumers in the Iberian peninsula, we hope that the first thing a new energy administration will do, is book a flight to the North and see what simple but effective measures are necessary to make a gas market work. It is really very simple:

  • Make the whole country one entry – exit zone and give the responsibility for managing congestions to the transport grid operator (Enagas),
  • Create an hourly day-ahead market (Mibgas) that is adequately aligned with a balancing system (run by Enagas) that is as simple as possible,
  • Implement the use-it-or-lose-it principles that oblige owners of unused capacities to sell it to others.

And while they are there, they might look at power market regulations as well.

In the meantime, the Spanish gas buyers face difficult choices regarding their gas contracts:

  • In April / May / June, when Mibgas and TTF were close to each other, we saw some offers in the retail market that were very attractive, will such periods return? It’s more important than ever for buyers in Spain to follow up intensively what suppliers can offer.
  • When should you switch to Hub-indexed gas buying instead of oil-indexation? With the low liquidity and lack of forward products, financially swapping an oil-indexed formula to TTF is a better choice than Mibgas. Budget risk customers that need long term price stability can focus on the possibilities for savings and more agile price fixing of the new market realities. Market risk customers for whom energy pricing matters in terms of competitiveness should consider whether their competition is in Spain or in countries that have already switched to Hub-indexation. If you face foreign competition, you better consider a quick switch to Hubs. If you’re competing with Spanish companies, you have to decide whether you want to be a first mover or not.
  • Switches to Hub-indexation can come at different add-on costs, depending on the difference between oil-indexed gas and the Hub (TTF) at the moment that you make your contract. From that perspective, you should consider switching an oil-indexed formula in gradual steps towards TTF, which is a complicated hedging operation.

Natural gas is an important input to the economy. It is intensively used by base industries that are the cornerstone of many supply chains. Moreover, it has a lot of impact on electricity pricing. In Spain’s fuel mix, natural gas-fired power stations have the potential of being the marginal power stations, meaning that lower gas prices should result in lower electricity prices. Getting Mibgas fixed should therefore be an important priority for the next Spanish energy minister.

 

Sytuacja na światowym rynku węgla

By Ondrej ZichaEnglish version

W 2016 nastąpiła znacząca zmiana trendu w poziomie cen węgla. Po latach systematycznych spadków ceny węgla odbiły się w marcu tego roku, aby ustabilizować się na poziomie 60 dolarów za tonę (indeks API2, lipiec 2016). Ceny na takim poziomie widzieliśmy ostatnio ponad rok temu.

afb1

Źródło: opracowanie własne

Ceny węgla spadły o 70% od 2011 roku. Węgiel dostał łatkę ‘brudnego’ paliwa i zgodnie z popularną polityką dekarbonizacji został wyparty przez inne źródła energii. W sytuacji, gdy popyt spadał szybciej niż podaż, ceny systematycznie szybowały w dół do poziomu poniżej 40 dolarów za tonę w lutym i marcu br., dochodząc do progu rentowności wydobycia. Cały sektor dopadł poważny kryzys, gorącego okresu nie przetrwało kilka dużych firm m.in. amerykański Peabody Energy.

Co jednak przyczyniło się do odwrócenia trendu i wzrostu cen od marca tego Roku?

Chiny siłą napędową światowych cen węgla

Główną przyczyną odwrócenia trendu są zmiany w polityce gospodarczej Chin, które odpowiadają za ok. 50% światowej produkcji i zużycia węgla. W lutym br Chińczycy zapowiedzieli zamknięcie ponad 1000 kopalni do końca roku. Do likwidacji wyznaczono głównie małe kopalnie, które nie zapewniały odpowiednich warunków pracy. Dodatkowo w kwietniu ograniczono czas pracy w lokalnych zakładach o 16%.

Ograniczenie produkcji węgla powinno iść w parze ze zmniejszeniem zużycia surowca, ze względu na ekstremalnie wysokie zanieczyszczenie powietrza. Jednakże przestawienie się na inne bardziej ekologiczne paliwa to powolny i żmudny proces. Chiny mocno angażują się w rozwój odnawialnych źródeł energii, jednak chińska sieć przesyłowa wymaga dalszych inwestycji, żeby poradzić sobie z transportem niestabilnej energii odnawialnej.

Należy również ostrożnie podchodzić do tego co Chiny mówią i obiecują. Z jednej strony rząd zapowiada ograniczenie wydobycia paliw kopalnianych, z drugiej Greenpeace informuje o budowie kolejnej kopalni o mocy 400 GW, podczas gdy plan redukcji zakłada tylko 70 GW.

W krótkim okresie Chiny będą musiały importować więcej węgla (rokroczny wzrost w sierpniu wyniósł 52%), co z pewnością ucieszy wydobywców na całym świecie i ustabilizuje ceny węgla z powrotem na poziomie opłacalności.

Węgiel a sprawa polska

Rosnące ceny węgla to dobra informacja dla Polski, gdzie rodzimi producenci walczą o przetrwanie. W ramach ratowania sektora górniczego Kompania Węglowa, największy producent w UE, została przekształcona w Polską Grupę Górniczą. Wyższe ceny pomogą PGG w podtrzymaniu rentowności.

Z drugiej strony, nową spółkę dalej czekają problemy które obniżają jej konkurencyjność. Przede wszystkim, benchmarkem dla węgla wytwarzanego przez PGG jest polski indeks PSCMI1 (a nie API2 jak w przypadku rynków światowych). I jak możemy zobaczyć na poniższym wykresie, ceny węgla w Polsce jeszcze się nie odbiły, i od czerwca są one poniżej indeksu API2.

afb2Źródło: opracowanie własne

Kolejnym problemem są zbyt wysokie koszty wydobycia. Silna pozycja związków zawodowych nie pozwala kopalniom na redukcję szerokiego pakietu benefitów pracowniczych. Do uzyskania długoterminowej rentowności potrzebne będą bardziej radykalne zmiany niż czasowa likwidacja tzw. czternastek.

Perspektywy na przyszłość

Ograniczenia wydobycia węgla w Chinach doprowadziły do usztywnienia podaży w niektórych regionach co skłoniło rząd w Pekinie do rozluźnienia regulacji. W przypadku niewystarczającej podaży węgla lokalne kopalnie mają pozwolenie na zwiększenie produkcji. Jest jeszcze za wcześnie, aby stwierdzić czy ogólny trend cenowy znów odbije w dół po tej decyzji, jednocześnie mała korekta była widoczna w ostatnich dniach.

Nie ulega wątpliwości, że Chiny są główną siłą napędowa światowych cen węgla i jedną decyzją polityczna potrafią zmienić sytuację na rynku globalnym.