Italian traders focus on Cal ‘16 as Cal ‘17 discount increases

Strong spot prices and the expected renewal of a virtual interconnector scheme are supporting the Calendar Year 2016 contract on the Italian wholesale electricity market, several traders told ICIS, swelling the product’s premium over Calendar Year 2017 to a record high.

However, growing scrutiny from market participants on the fair value of the front year might reduce Cal ‘16’s clean spark spread – a measure of profit margins for gas-fired power plants – and premium, sources maintained.

Spot effect

Interest on the front year ramped up quickly during November amid soaring spot prices.

A total of 283 Cal ‘16 trades were closed between 1-18 November according to data submitted to ICIS, while 352 trades were executed in the whole of October – a 47% pro-rata increase. In 2014 front year trades increased by only 4.7% over the same period.

The PUN Day-ahead price started November continuing the bearish trend of October amid above-average temperatures which weakened demand for electricity.

However the spot took off from 4 November, when planned works on transmission lines and low renewables reduced the availability of cheap electricity in the energy-hungry northern regions of Italy. Strategic bidding by producers also helped support the spot during peakload times, according to sources.

With gas prices at a low, the high PUN pushed clean spark spreads in November to an average €13.87/MWh, ICIS calculations show. This increased the average 2015 day-ahead clean spark from €3.88/MWh in October to €4.46/MWh on 18 November.

The OTC clean spark spread for the front year reacted accordingly, reaching an all-time high on 12 November (see graph 1).

“The spark on the front year is now quite high, especially if you consider that the spark for the 2015 PUN is mostly the effect of record-high delivery prices in the summer,” one utility-based trader said.

Excluding July’s spots, which averaged €21.26/MWh, the average 2015 figure drops to €2.54/MWh.

Virtual interconnector

News of a government plan to extend to 2021 a virtual interconnector scheme expiring in 2015 was also a factor of support for the front year (see EDEM 17 November 2015).

The scheme, which allows energy-intensive end-users to give energy companies electricity in a foreign country in exchange for volumes in Italy, typically leaves Italian market participants in a short position on the front year. Several traders have preferred to hold on to their Cal ’16 despite falling far curve gas prices on the PSV hub, allowing the clean spark spread to widen.

“We’re just waiting to see whether the parliament will be able to approve the scheme’s extension in time for setting up auctions this year; if not, the contract will crash,” said a second utility-based trader. The parliament vote is expected in December with the approval of the 2016 budget.

Cal ’17 discount

While Cal ’16 remains supported, the value of Cal ’17 dropped quickly in November tracking the weakness of its PSV peer.

The bearishness of the PSV Cal ’17 was driven by a similar move on the TTF market, to which the PSV typically trades at a spread.

During the first week of November, the PSV Calendar Year 2017 contract moved below Cal ‘16 for the first time since July, following its Dutch peers (see graph 2).

TTF traders polled by ICIS explained the newly formed backwardation with reference to hedging strategies undertaken by a number of large market participants. LNG hedging was frequently mentioned as the main factor causing a fall in Cal ‘17 and ‘18 contracts in comparison with Cal ‘16.

Data collated by ICIS shows there will be an additional 73 million tons per annum (mtpa) of LNG supply on-stream globally by the end of 2016, compared with just 60mtpa of new regasification facilities.

Weak oil prices have also been highlighted as another factor pressuring longer-dated gas products on European markets. riccardo.patrian@icis.com and matilde.mereghetti@icis.com