Renewable forecasts feed premium on UK electricity day-ahead

Uncertainty around renewable forecasts has established a premium in day-ahead deliveries on the UK’s over-the-counter (OTC) wholesale market this summer, according to ICIS data and market sources.

It follows analysis of OTC liquidity since the start of 2016 that revealed erratic renewable forecasts are depriving the prompt market of volume despite the rise in intermittent and flexible generation (see EDEM 9 June 2016).

Average ICIS closing assessments of the Day-ahead Baseload have exceeded the value of the expiring front month preceding those settlements most months since the start of 2016 (see chart).

The trend shows that the market is currently pricing more risk into contracts closer to delivery than further ahead on the front month.

Some market sources believe that a largely bearish prompt and forward market last winter has lulled traders into expecting prices to keep falling, leaving themselves short on the prompt.

“Everyone’s short on the month itself,” one source from an energy-to-business supplier said. “People have positioned themselves in a way to expect summer prices to tank.”

Renewable uncertainty

But sources are unanimous that frequent changes in forecasts for renewable generation, in particular solar, have left the market struggling to price the day-ahead delivery.

Wind and solar capacity combined across the UK now exceeds 25GW while peak demand in summer typically ranges from between 30GW to 40GW.

“It makes it more difficult with all this intermittent generation pinging around,” another trader from a supplier said.

“Forecasting for solar has not been going too well,” one source from a renewable energy purchaser said. “If you look at the solar, I think it’s impacting within-day and cash out rather than being borne out in the day-ahead price or auction,” he added.

Increases in solar generation, which has lower operational costs than thermal generation, typically depresses the value of wholesale electricity. Although solar capacity operates solely on an embedded level in the UK, its impact on the market is measurable from reductions in system demand that typically peak around early afternoon. The result, on occasions, has been crashes in intra-day prices and even negative settlements.

Another source agreed that the premium in the day-ahead delivery was the result of uncertainty over forecast outturn from renewable sources.

This could be leading to the day-ahead price failing to reflect the actual cost of delivery, according to another supplier source. “The really interesting prices are the costs of marginal power, which are far lower,” he said.

The marginal cost of electricity, which is determined by the most expensive plant required to meet demand, is conventionally used by UK traders to set the of value wholesale electricity contracts. Since the start of the decade, gas-fired generation has typically had the highest operational costs in the UK and therefore acted as the marginal and price-setting form of generation.

No surprises

Despite the high day-ahead settlements, some sources are not surprised despite suggestions that traders have left themselves short in the hope of lower prompt deliveries.

“In May, there were some days that turned out really high in terms of the sparks,” the source from the renewable purchaser said. “On low wind days, I don’t think it’s that surprising,” he added, referring to high day-ahead settlements.

“It is surprising when looking at demand as it is not necessarily that high,” LG Energy’s head of trading Serge Mazodila said. “But the retirement of coal has increased the correlation between the day-ahead gas and power.”

Around 4GW of coal-fired capacity exited the market at the end of March, putting even more emphasis on the UK’s fleet of CCGTs. This has also made day-ahead power settlements more sensitive to changes in the cost of day-ahead gas on the NBP market. The NBP Day-ahead has been strong in recent weeks courtesy of unplanned and planned outages on key Norwegian gas infrastructure.

Furthermore, there is a precedent from last summer. A similar trend of higher-than-expected day-ahead settlements caught traders unawares when the contract delivered higher in July and August than it did in the early summer months (see EDEM 14 August 2015). henry.evans@icis.com