us-mmr-january-2019-article

Midwest Electricity Prices Offer Value for Entire Forward Curve

June 2019 saw a real breakdown in ComEd and Ameren electricity prices across the board. While electricity prices have been subdued for the last few months, there was an acceleration lower during June 2019. The largest driver of lower prices has been the very low level of spot prices observed the last 3 months.
The June monthly day-ahead price of $21.76 Per MWh was the lowest monthly average June price since ComEd joined PJM in 2006. The average day-ahead price for the first half of the year was $24.35 per MWh, which is 6.4% lower than the $26.02 per MWh price observed in 2016 (the lowest full year on record). With spot prices at such levels, it is logical that forward prices would move lower. The question is, have they overshot to the downside? Our answer is that we think so, and we are still advising clients to lock in a high percentage of their electricity obligations for the next few years.

While the spot prices are for sure very low, the question that needs to be asked is whether this is a permanent condition or is it temporary? We believe it is the latter. One of the tools used in load forecasting and for other purposes is a concept called Degree Days. A simple method (there are many) of degree days compares the mean (the average of the high and low) outdoor temperatures recorded for a location to a standard temperature, usually 65° Fahrenheit (F) in the United States. The more extreme the outside temperature, the higher the number of degree days. Heating degree days (HDD) are a measure of how cold the temperature was on a given day or during a period of days. For example, a day with a mean temperature of 40°F has 25 HDD. Two such cold days in a row have a total of 50 HDD for the two-day period. Cooling degree days (CDD) are a measure of how hot the temperature was on a given day or during a period of days. A day with a mean temperature of 80°F has 15 CDD. If the next day has a mean temperature of 83°F, it has 18 CDD. The total CDD for the two days is 33 CDD.

Everything else being equal, a winter month with a high HDD total would expect to have higher energy demand and so would a summer month with large CDD total. For the first three months of 2019, the total HDDs for the East Central Area of the US was 2967, 5.2% lower than the 3130 number for the same period in 2018. During May and June of this year, the total CDDs were 154, 46.71% lower than the same period in 2018. As a point of reference, the day-ahead average price for the 2019 Jan-Mar period was $25.95 per MWh, 8.19% lower than the $28.26 per MWh price observed in the same period in 2018. The day ahead average price of $21.76 per MWh for May-June 2019 was 13.41% lower than the $25.13 per MWh price seen in the same period in 2018. Clearly, there is some correlation between weather and price, especially at the margin after baseload usage is accounted for. Energy prices are mean-reverting, and while it can be argued that the mean is declining, the large decline in forward prices in ComEd for 2020 and 2021 really do offer the chance to purchase power well below the averages of the last few years. A general concept that has worked in the energy markets over the years is that the cure for high prices is high prices and the cure for low prices is low prices. We believe that to again be the case at these price levels.

Sources: PJM, CME, and the American Gas Association (AGA)

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David Mousseau

David is a global commodity professional with detailed understanding of traditional and alternative energy markets, including carbon. He has expertise in both the financial and physical Over-the-Counter (OTC) electricity and emissions markets with trading experience in a multitude of market environments and is an executive member of CAIA, a global education association for alternative investments.

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David Mousseau

David is a global commodity professional with detailed understanding of traditional and alternative energy markets, including carbon. He has expertise in both the financial and physical Over-the-Counter (OTC) electricity and emissions markets with trading experience in a multitude of market environments and is an executive member of CAIA, a global education association for alternative investments.