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Retail price spikes – The drivers and implications

Kanlier_PRINTThe recent extreme cold weather in the Midwest and Northeast has driven competitive retail price offers, specifically for residential customers, to historic highs. Customers and policymakers in Connecticut, New York, and Pennsylvania are investigating what these trends mean in regard to how retail markets are intended to function. While the regulatory outcomes are uncertain, scrutiny on the fundamental functions of wholesale and retail markets are in the cross hairs in these markets. We do not expect this political momentum to cease when the seasonal drivers for these competitive price dynamics wane. However, monitoring the possible over-correction to these spikes from both the retailers and the commissions could develop an additional push to market consolidation. We expect that there will be intense debate over regulating some aspects of competitive, variable pricing throughout 2015.

Extreme weather in the Northeast has exacerbated issues in wholesale markets that are playing out in short-term competitive retailer prices. This dynamic is a perfect example of a signpost for the type of “retail market correction” DNV GL’s (formerly DNV KEMA) Retail Energy Markets Team predicted at our 2013 Retail Energy Executive ForumTM. We anticipated that this “market correction” would be a necessary precursor to a fundamental change in the competitive retail landscape, that is currently unsustainable, due to factors that currently characterize what we have termed “The Retail Bubble,” including:

  • No new markets are opening in the short term (Indiana and Vermont are discussing, but no legislation is in place yet)
  • Compressed retail margins
  • A surge of retailers entering or expanding into current retail choice markets (216 retail supplier license applications submitted in the last 12 months alone, with ~80% having been granted to date) and very few players exiting markets
  • No change in the default role of the utility in all markets except ERCOT
  • Acceleration of mergers and acquisitions (M&A), book sales throughout 2013
  • Substantial increase in retailers expanding their products and services
  • Partnerships with other players in the renewables, telecom, and technologies services sectors to leverage customer channels
  • Many retailers re-thinking retailer services around the substantial trend of distributed energy generation (customers installing generation sources behind-the-meter)—this will signal a change to commodity “business as usual” approaches in competitive power markets

Wholesale Market Dynamics in the Northeast: As a result of the recent increase in production in shale gas resources, generators are increasingly looking to build natural gas fired generation. We expect this trend to make price volatility worse during severe weather in the short term, particularly if pipeline capacity to transport natural gas isn’t increased.

  • PJM Interconnection: During the Polar Vortex, the price of natural gas in PJM reached $33.3 per MMBtu from an average of $3-6 per MMBtu due to severe supply constraints, which caused day-ahead, average on-peak power prices to top $268/MWh. In response, PJM asked customers to curtail usage during peak times to avoid capacity shortages and rolling blackouts. In January, PJM had roughly 40 GW of generation outages, with roughly 6-9 GW due to gas curtailments.
  • ISO-New England (ISO-NE): In New England, the price of natural gas reached $38 per MMBtu from an average of $3-6 per MMBtu due to severe supply constraints, which caused electricity prices to top $237/MWh. According to ISO-NE, ~85% of available generation (12,000 MW of the available 14,000 MW) is fueled by natural gas. ISO-NE is currently focusing on a new, long-term natural gas procurement strategy aimed at reducing the supply shortage.

Retailer Responses to These Trends:  DNV GL’s Retail Energy Markets Team has been tracking monthly variable-priced competitive residential offers. Figure 1 shows the average and highest monthly variable priced competitive offers in PJM/ISO-NE markets and the story is dramatic. In five markets, the 12-month increase in the highest competitive offers was over 100%. In recent financial calls, retailers are widely citing extreme weather conditions, in addition to margin compression, low barriers to market entry, and rising natural gas and electricity prices, as challenges to staying competitive.

Figure 1 – Comparison of Monthly Variable-Priced Competitive Residential Offers

Figure 1 – Comparison of Monthly Variable-Priced Competitive Residential Offers

Policymakers, Customers Respond: Customers in retail choice markets affected by these wholesale dynamics always have the option to remain with their default service rate or avoid monthly variable priced offers. The trend upwards in competitive prices in the Northeast has customers and policymakers acutely concerned about competitive options and the fundamental market design issues that enable these trends.

Market Correction Implications: On the retailer side of the equation, we may see retailers revising their contracting/pricing terms, policy changes notwithstanding.

It is clear that neither policymakers nor market players on the whole will treat the fall-out from recent extreme weather as a “short-term” issue. We expect that before the close of 2014, customer protection rules in one or more of these states investigating competitive pricing will be revised. The response from regulators on market design/pricing changes could take several directions—new requirements around retailer pricing disclosures, enhanced customer protection rules, or even some form of regulation around variable price offer terms.

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Register today for DNV GL’s 25th Retail Energy Executive Forum
The 25th Retail Energy Executive Forum will be held May 12–14, 2014, at The Fairmont Scottsdale Princess in Scottsdale, Arizona. Learn more at www.dnvgl.com/REEF2014.

 

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