Power & Gas Options
The Market is Fairly Long in Volatility Overall, consumers’ limited interest in options is ultimately
reflected in a lack of buyers, and the market appears structurally long in options. Aside from internalised management of volatility, the main opening for the flexibility offered by the assets therefore remains financial operators. But these will probably have to be prepared to bear a fairly high residual risk – in terms of both prices and liquidity – before intervening in the market. That may be an additional factor explaining the relatively low level of option trading.
The Option Market: A Reality Today & High Development Potential The gas and power options market is now a reality in
Europe with annual trading volumes at least equivalent to the production of 25 combined cycle gas plants in the case of power options and exceeds Germany’s total gas storage capacity in the case of gas options. In addition, despite the economic crisis, trading in European gas has continued to increase. This market is being driven by
... and Better Use of Flexibilities ... The second trend, perhaps less evident, would involve better
the trading subsidiaries of the incumbent suppliers setting a value on certain flexibilities in their parent company’s asset portfolios and by the major investment banks. Only consumers’ appetite for option purchases remains limited. As a result, the market appears long in volatility overall. The energy options market still has considerable potential for
further development. Whereas, on average, options represent 10% of the total volumes traded in other commodity markets, this proportion is barely 1-2% in the Western European gas and power market.
Greater Integration of European Marketplaces Two factors should help bring about a gradual catch-up in looking forward. The first is associated with the continued convergence of the European gas and power markets. The Commission’s stated aim of developing interconnection infrastructures by 2015 should contribute substantially to better integration of the various national markets. This physical merger of marketplaces will probably attract interest and hence liquidity in gas and power even more strongly to two or three main hubs in Western Europe. Widely used price benchmarks and more interest and greater competition among operators should ultimately contribute to a wider spread of option products, particularly among consumers. Volumes traded in the markets should increase as a result.
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... flexibilities would also enable operators to cope better with the
intermittent nature of fast-growing renewable production
valuation of the various flexibilities in the European energy system. For industrial customers, in the likely context of ever higher energy prices, the main means of cutting energy bills will no doubt be found in even greater control of the overall level of demand, and particularly in the development of flexibility in consumption modes. Suppliers, meanwhile, could obtain greater flexibility from consumers before investing in new assets. In the case of the power market, for example, this would involve paying customers to maintain load-shedding capacities, or using the potential of existing assets on industrial sites – cogeneration for example – to provide additional supplies. The potential, which was already partly exploited before liberalisation but is somewhat under-utilised now, is no doubt very great ... certainly at least 5% of peak demand in the various European countries. These flexibilities would also enable operators to cope better with the intermittent nature of fast-growing renewable production (wind, solar, etc.). The adaptation of behaviour to wide price fluctuations, particularly price peaks associated with often temporary difficulties in gas and power supply systems, remunerated
through options, would ultimately be liable to secure supplies and would probably contribute to a reduction in supply costs on a European level. In conclusion, European gas and power markets are probably
suffering from rigidity. The relatively low volumes traded in the option market and the high volatility of prices could ultimately be seen as a direct consequence of this statement of fact. The convergence of marketplaces on a European level and
better sensitivity on the part of all operators, particularly consumers, to the value of the flexibility reflected in option prices could ultimately help smooth this volatility somewhat. At the risk of being slightly utopian, contributing to the
development of the market, and in particular the option market, could ultimately help provide even more effective tools to hedge against price and volume risks while smoothing the excessive price volatility ... finally guaranteeing better security of supply on a European level while fully valuing the flexibilities in the system. ■
Franck Schuttelaar is Market Economist with Gaselys in Paris.
E:
franck.schuttelaar@
gaselys.com www.gaselys.com
worldPower 2010
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