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Gas Hedges Backfire on Municipal Power Utilities

Global credit woes continue to seep into the public-sector utility space where the electrics made bold natural gas hedging plays in recent years, and at least one of the major ratings agencies, Moody's Investors Service, on Thursday downgraded several of the utilities in California and elsewhere around the nation. The hedges were bad enough that one municipal said it was closing up its hedging program.

Moody's downgraded Roseville, CA; Colorado Springs, CO; and a Texas public-sector gas-buying entity; they are all being lowered to A2 from A1 credit ratings. And elsewhere in California, the former energy trader for the Imperial Irrigation District (IID) is suing the utility after being fired, allegedly for overreacting to Hurricane Katrina three years ago and costing the public-sector utility tens of millions of dollars in excessive wholesale natural gas charges.

Collectively, more than $4 billion of natural gas deals were involved in the four utilities' gas-buying programs. The three downgrades were all attributable to ratings being lowered on Merrill Lynch & Co., which served as the gas agreement guarantor for the trio in their separate transactions.

Roseville Natural Gas Financing Authority's $195 million in gas prepayment bonds for long-term, pre-paid gas supplies was slapped with the ratings downgrade by Moody's. Similarly, the downgrades also apply to the $630 million of Public Authority for Colorado Energy Natural Gas Purchase Revenue Bonds, and some $2.3 billion of debt by the Texas Muni Gas Acquisition & Supply Corp. I.

"Merrill Lynch served as the gas purchase agreement guarantor, and therefore, the rating on the transaction(s) is substantially based on Merrill's rating [downgrade]," Moody's said.

Meanwhile, the former IID trader has gone to news media attempting to save his reputation after betting the adverse consequences and high wholesale gas charges would last longer than they did following Katrina. In a report one consultant has estimated that IID lost about $51 million in excess fuel charges it was stuck paying.

The head of IID's oversight board told news media that utility customers paid an average of $10 more than they should have because of the trader's aggressive moves. The IID board made some $20 million in utility budget cuts because of the poor trades, but investigations by both local authorities and a consultant to the utility found no illegal or criminal activity.

Allegedly, the trader did not get the proper authorizations to make many of the trades he made for IID, but the former employee told news media an oversight group was aware of everything he was doing. He has since sued IID claiming defamation.

The losses over hedges were large enough that IID on Friday told NGI that it has dropped its hedging program. "IID is taking a fresh look at its forward purchasing of natural gas," an IID spokesperson said. IID has maintained a fuel and trading unit in its operations, but the gas purchases are now very conservative. The largest of the contracts signed in the wake of Katrina expired in April 2007, the spokesperson said. They're not being replaced.

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