Bearish slide draws liquidity into UK electricity far curve

Liquidity on the far curve of the UK wholesale electricity market increased noticeably during July, with ICIS trade data suggesting market participants shifted their attention particularly to power with delivery over winter 2016.

Sources have said volumes are gravitating to the Winter ’16 to mitigate the risk of market events this winter forcing the price back up or further down.

General bearishness in global commodities markets has also encouraged participants to hedge forward, sources said.

The increase in liquidity coincided with the far curve slipping into backwardation, meaning that contracts further removed from delivery have become cheaper than those closer to it (see EDEM 30 July 2015).

Total volume traded on all seasonal contracts increased by 57% month on month during July, with 52.4TWh traded on the over-the-counter market during July, up from 33.4TWh traded in June.

Much of the increase relates to volumes traded at the far end of the curve – 22.8TWh went through on contracts beyond and including Winter ’16, up from just 9TWh in June.

In addition to the monthly increase, year-on-year comparison reveals that volumes increased from July 2014, when 12.7TWh was traded beyond and including the season +3.

Last month, one trader cited anxiety that the UK’s carbon price support, which injects a slight premium into wholesale electricity contracts, might be scrapped as a motivation for participants to take positions further out.

Other sources last week said the current backwardation had encouraged more participants to hedge positions on the far curve and trade spreads between other commodities markets.

They added that risk attached to the winter ’16 delivery was inciting both buyers and sellers to pile volume into the baseload and peaks products.

“If Winter ’15 is getting less liquidity, it’s only right for people to pay attention further down the curve,” a trader from an energy procurement company said.

“After Winter ’15, the next biggest risk is Winter ’16 so you’ll take your hedge on that before the winter is over when you don’t know what will happen,” he added.

Temperatures this winter, which will dictate the amount of gas used for domestic heating and consequently the quantity of gas withdrawn from storage, will instruct sentiment further out on both NBP and power markets where an ingrained link exists.

A colder-than-average winter could force up prompt gas prices and fuel bullish sentiment for both Winter ’16 NBP and power contracts.

Coal plant closures in the UK could also impact the market in winter 2016, a trader from a European utility said.

Changes in the profile of participants is also spurring more curve liquidity, another utility trader said last month.

The exodus of banks from the UK market a couple of years back took a large swathe of speculative traders, who typically boost interest in futures, out of the reckoning.

But changes to the retail market and the nature of generation is attracting more volume from traders hedging physical volume, the trader said.

“There will be more liquidity on PPA (power purchase agreement) deals as wind generators need to hedge and lock in volume ahead,” he said.

“All those whose revenues are linked to fixed price tariffs, it suits them to hedge five years ahead,” he added. “So it’ll be a question of matching up the two.”

Increased curve liquidity will also comfort energy regulator Ofgem. Last year, it intervened to improve liquidity by introducing its ‘Secure and Promote’ licence that obliges the UK’s principal six utilities to post bid and offers with brokers on certain curve products during the trading day.

The regulator is expected to issue its annual report on the wholesale market next month. henry.evans@icis.com