Smooth start for Texas nodal

Smooth start for Texas nodal day-ahead market

Nodal day-ahead market

The transition from a zonal to a nodal market on December 1, 2010 was a long time coming for the Electric Reliability Council of Texas (Ercot). The system operator was ordered to develop a nodal wholesale market design in September 2003 by the Public Utility Commission of Texas and shelved its first attempt to transition in 2008.

Under the new structure, the grid will consist of more than 4,000 nodes or pricing points, as opposed to just four congestion management zones under the old system. Market participants will also have access to a financially-settled day-ahead market to give price certainty one day in advance. The price transparency gained from the new structure should allow Ercot to better manage the grid, enable more accurate siting of generation and transmission assets, reduce congestion and subsequently push down overall system costs.

Commentators generally agree that, although it remains early days for the new market, the transition has been smooth. "The market is developing and participation improved during the first few days of the day-ahead market," says Randy Baker, managing partner at consultancy Smith Street Advisors. "I suspect that trend will continue."

More participants have been taking advantage of the new day-ahead market now the system is live. Between 130 and 140 participants have used the market compared to between 25 and 30 participants during pre-launch market trials. Ercot also reported that prices have remained generally stable, with few anomalies. In a report to board members on December 14, 2010, Ercot's chief executive officer Trip Doggett said nodal day-ahead prices have paralleled real-time prices since launch. Generally, nodal prices have been less volatile and lower when compared to a similar day last year (December 18, 2009).

Adjusting to the nodal structure has presented new challenges for Ercot market participants in terms of congestion risk management. "There is now a basis spread, there is a risk of congestion and there isn't sufficient liquidity to provide a hedge against that risk in the market at the moment," says Andrew Elliott, director, supply & portfolio management at GDF Suez Energy Resources.

"As the market matures, Congestion Revenue Rights (CRRs) will become more available," he continues. "Market-makers, such as generators, banks and trading companies, are currently waiting on the sidelines to see what that congestion cost is likely to be. I predict it will be several months before we see a vibrant liquid market that will allow us to effectively hedge that risk."

Baker adds there is already a mature bilateral or over-the-counter market in these areas and agrees that it could take time for liquidity to build in the primary market. "I don't see market-makers participating in the day-ahead market since Ercot requires bids and offers to be submitted by 10am, after which participants are locked out from submitting new bids and offers. The same is true for the CRR auction. However, there could be increasing liquidity and participation in both markets as they mature," he says.

In time, experts expect market-makers to start offering products to hedge the basis risk or sell the load zone outright. "As an REP we're continuously in contact with our suppliers and pushing them in that direction, waiting for them to offer those products," Elliot says. He adds that participants are also awaiting further development of Ercot's capacity market, which would be used to mitigate capacity shortfall charges in the real-time market.

Nodal Exchange plans to launch Ercot nodal market contracts after it has gathered a year's worth of price data, according to Paul Cusenza, chief executive of the exchange. Its auction and OTC trade platform would provide participants with the ability to manage basis and credit risk via tools such as cleared futures contracts.

Another area of concern for the market is the credit and collateral requirements laid out by Ercot for those participating in the day-ahead market. Baker believes the current requirements are "a rather blunt tool to cover financial risk in the day-ahead market".

Ercot uses a 'dirty netting' system, according to Baker, which attempts to synthetically net buying against selling to reduce collateral requirements in the day-ahead market. "This is not what market participants really wanted, but a compromise approach due to Ercot's system limitations and inability to make significant changes to its nodal design just a few months before launch [the requirements were not drafted until early 2010]. I would expect that market participants will come together again to forge changes in Ercot protocols in the coming months to design a cleaner, true netting system for collateral requirements in the day-ahead market."

According to spokesperson Dottie Roark, the Ercot credit management team expects to review the day-ahead market credit requirements in the future, but has not yet set a specific date. She says the system operator will need sufficient data to begin the evaluation and so would be unable to begin assessing the impact of the ongoing credit requirements until at least the second quarter of 2011.

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