Power Shock Sends CA Players Running for Risk Management
In the wake of California's latest round of electricity price
and supply shock concentrated in San Diego, some of the state's
major energy industry participants have raised the level of
interest in forward markets and hedging. San Diego Gas and Electric
Co., in particular, has been second guessed about why it did not
use available hedging instruments through the state's nonprofit
power exchange to help ease the impact of recent wholesale price
spikes on its retail customers.
Interestingly, the debate has developed in the midst of
projections this month that energy giants like Duke, El Paso and
Enron who have major trading operations are looking at robust
profits for the second quarter because of the same extreme energy
price swings that are giving governmental officials, utilities and
consumer advocates fits. (El Paso has reported $152 million in
profits from its power trading and marketing operations in the past
If firms actively manage natural gas, power generation and
trading activities, "volatility is your friend," said Jim Donnell,
CEO of Duke Energy North America in an analysts' call earlier this
month (July 7). "If you are only a merchant generator or commodity
trader, you would be inordinately exposed to volatility, and it
would then be the enemy." Without going into specifics, Donnell
told analysts that Duke Energy North America's power generation
portfolio is heavily hedged through next summer.
SDG&E in approaching this summer did not aggressively look
to the forward markets as a means of lessening the impact of
wholesale price volatility, and some consumer advocates are
criticizing the Sempra Energy utility subsidiary for not providing
their retail customers more of a "safety net." The utility gained
authorization last summer from state regulators to participate in
forward markets through the California Power Exchange (Cal-PX),
from which the state's 1996 electricity law requires investor-owned
utilities to buy all of their power supplies. The Cal-PX gained
federal authority to offer expanded block-forward contracts this
year, but SDG&E did not seek California Public Utilities
Commission (CPUC) okays to participate in those markets, although
the state's two other major electric utilities did. (SDG&E is
now on an expedited basis seeking CPUC authorization.)
"We have not elected to participate heavily in the block-forward
markets, although we have submitted bids into it," said Wayne
Sakarias, SDG&E's director of fuel/power supplies, speaking at
an emergency meeting of state energy participants last Wednesday in
San Diego. "No suppliers wanted to take us up on those bids. The
bids that we submitted for July that were not accepted were twice
what the current average price for electricity is this month. So
that explains why we are reluctant to accept those bids except on a
very critical basis."
In direct response to a question about whether San Diego
electric customers would have been spared the recent doubling and
tripling of their monthly bills by SDG&E using the same
bloc-forward contracts the state's other investor-owned utilities
did, Sakarias said it is unclear, but that it probably would not
have lowered consumer bills.
"The forward-markets are very thinly traded," Sakarias said.
"You can go day after day after day without striking any deals.
We've experienced putting bid offers in that have not been
"We currently have a limitation of 400 MW we can put into the
forward market which is roughly 10% to 15% of our load. Even if we
had participated in those (block-forward) markets it would not have
had a significant affect on prices even if we made a killing. And
in these types of markets, people typically don't make killings. In
my estimation, it is just shear speculation talking about what
might have happened."
Cal-PX sources, however, disagree with SDG&E, saying the
utility in essence "blew it" by not doing what Pacific Gas and
Electric Co. and Southern California Edison Co. did-hedging in the
PX's market. The source said that estimates place savings in
wholesale power costs of about $160 million in May and June
block-forward hedging by the two other IOUs. "Was there money to be
saved in the block-forward markets? Absolutely," said the Cal-PX
source who asked to not be identified.
"Even if SDG&E had only 20 percent of its purchases (in
June) in the hedge market, it would have saved them a ton of
money," said the Cal-PX source, who said the utility is not
sufficiently incented to hedge because under the current state
regulatory rules, it can pass on all the costs to its customers.
State-certified, nonutility energy service providers (ESPs) are
the only hope longer term of providing mass retail customers
protection against the extreme price swings that are inevitable in
deregulated markets. (The other option is re-regulation and
freezing retail rates.) And ESPs have been treading water in
California's retail electricity market among the residential and
small business customers, losing customers steadily as they return
to the incumbent utilities. Sempra Energy and its SDG&E has
pledged to turn that around as part of a strategy to promote
competition in the state's energy markets.
Ironically, when California's largest ESP, Commonwealth Energy,
offered a fixed rate, hedging-like option to customers last fall,
customers didn't go for it, according to Jay Goth, Commonwealth's
marketing vice president in Tustin, CA, who noted that since the
first of year Commonwealth's overall customer load in California
has dropped to 60,000 from figures approaching 100,000 last year.
"We haven't been doing any aggressive marketing in California
since the first of the year," Goth said. "We have turned out sights
on other markets where we feel there is a better economic model for
us, so Pennsylvania is where we have been concentrating our
efforts. And we have a provisional license in New Jersey and will
get our permanent license in August, at which point we will start
Are you going to give up on California?
"San Diego is a good test of the market after the rate freeze is
lifted [statewide], Goth said. "I think some kind of hedging
strategies will be employed by everyone to provide the consumers
with strong price fluctuations in the summer. They'll offer some
sort of flat rate that will go throughout the year, but customers
will have to sign up for some contract period and not just switch
between summer and winter.
"I think that is what we're going to end up looking at offering.
I think we'll see a lot of different offerings structured around
market pricing, unless some people get their way and we go back to
a regulated market."
Current indications in the state legislature and with the two
Gov. Gray Davis appointees at the CPUC are pointing in the
direction of some retrenchment toward more regulation, at least for
the rest of the transition period to full competitive markets.
Richard Nemec, Los Angeles