New electricity trading arrangements: Power exchanges - an update

Background

It is intended that the new electricity trading arrangements will consist of the following elements:

• forwards and futures markets;
• short-term power exchanges;
• a voluntary balancing mechanism; and
• a settlement process.

Taken together these elements should provide a set of trading arrangements with many of the features of other commodity markets.

In its Proposals, OFFER suggested that a power exchange could be established to allow market participants to trade electricity "on-the-day" on a screen-based trading system to facilitate the fine-tuning of contractual positions. The Proposals stated that it was for consideration whether such an exchange should be explicitly procured by the NETA Programme or left to the market to develop. Meanwhile, the Programme advertised for expressions of interest from those interested in providing a power exchange.

On 18th May 1999 OFFER announced that the Programme, together with representatives of customers and industry, had considered whether a power exchange should be imposed by central prescription or left to be created in response to demand. The Programme's decision was not to procure a power exchange. Its feeling was that, given the interest in establishing power exchanges, independent organisations would seize the opportunity if there was a demand from market participants.

Interested Parties

The following five parties have expressed an interest in establishing a power exchange:

• OM;
• International Petroleum Exchange (IPE);
• Automated Power Exchange (APX);
• iVentures; and
• a consortium of NordPool, ESIS (a subsidiary of NGC and an investor in EnMo) and Altra Technologies (an investor in EnMO).

The Report, which was published shortly after OFFER's announcement that the Programme would not be procuring a power exchange, identified that OM, an electricity exchange operator in Scandinavia and California, and IPE, which operates an oil and gas futures exchange, were interested in establishing a power exchange.

APX, iVentures and the NordPool consortium have subsequently unveiled their plans. All three of them are proposing to introduce internet based schemes. Like OM, APX is currently operating an exchange in California. The NordPool consortium was the most recent to enter the fray when it signalled its interest on 23rd March 2000. NordPool is utilising its experience in Norway, the world's first deregulated power market, while ESIS and Altra already run an on-the-day gas market in the UK through EnMO.

Proposed Power Exchanges

[KEY: Developer, launch date: Products]

"UKPX" (OM), 26th May 2000: Continuously traded physical futures contracts for baseload (24 hours) and peak load (0700 to 1900 weekdays). The contracts will "cascade" from seasons (summer and winter) to quarters, months, weeks, days and finally sport market half hours. See attached Contract Specifications.

APX, Second Quarter 2000: Internet-based exchange for continuously traded physical and financial contracts, from half-hourly to at least one year forward. APX will also offer a bilateral trading platform.

"PowerEX", (iVentures), Second Quarter 2000: Internet-based trading platform for automated matching of bids and offers. Participants can choose bilateral transactions where they take on credit risk and handle settlements or use a third party bank clearing service.

IPE, Summer 2000: Under review, plans include physical and financial contracts on the day and up to a year forward.

"UK Energy Exchange", (NordPool, NGC and Altra), Third Quarter 2000: Forward and spot contracts for gas and power. Forward contracts will be traded continuously. The power spot market will be a day ahead auction, followed on the delivery day by short-term adjustment trading up to gate closure (3.5 hours before delivery).

OM is expected to be the first off the blocks, launching electricity futures trading on 26th May 2000 and spot trading by the end of the year. OM have published specifications for the futures and spot contracts to be listed on its exchange. These are available on its website (www.ukpx.com) under the "Market Development" heading. Further information is available on the website to those who have registered as potential members, including membership documentation, licence agreements and the exchange rulebook.

APX, iVentures and IPE are all currently finalising their contract specifications, while the NordPool consortium has only recently joined the race. Accordingly, at the present time, there is only general information available on the contracts that will be traded on their respective exchanges.

Five Exchanges, One Stage?

For market participants, tracking five exchange screens on top of bilateral business, which should make up the majority of trading even after the exchanges are launched, is a potentially daunting prospect. Views have been expressed in the electricity industry that there is room for only two exchanges, and possibly just one.

Traders say that the exchange which can attract the biggest volumes will succeed. The exchange developers point to product differentiation in an attempt to justify their co-existence. However, they are widely perceived to be chasing the same volumes. The market will not divide the volumes being traded into too many small and incompatible volumes, which would be the likely result of trading being spread over a number of exchanges. In all likelihood, volumes will shift decisively to one or two exchanges. Unless that is the case, transparent and efficient trading is likely to be difficult, since no one exchange is likely to have the liquidity necessary to make it an attractive forum for trading.

Power in Europe states that "UKPX is widely perceived to be the front-runner in exchange competition." It goes on to speculate that exchange developers may enter into co-operation deals, especially when it becomes more readily apparent which of them are likely to find it difficult to survive the competition.

For further information contact Scott Lesner at [email protected] or on +44 (0)20 7367 3000.