Newsletter
7.13.2009
A Subscriber on Hourly Electricity Pricing Seeks Advice
Is ComEd’s Hourly Rate the Best Deal?
Knowing When to Switch to Fixed Price Contract is Key
As the outlook for the economy in the near-term continues to look questionable, energy prices continue to sag. After a recent run up to over $70/bbl, crude oil has settled back to around $60 as unemployment figures and gasoline inventories sent bearish signals to traders; NYMEX natural gas prices for the forward month continue to sell for less than four bucks; and the hourly electricity prices for the summer months are the lowest in recent memory. While this is bad news for producers, it is great news for those end users who currently find themselves in the spot market. With prices in the tank, the spot market looks like the place to be. This week, a subscriber who is currently on ComEd’s hourly rate for electricity supply, asked us if he was doing the right thing and how he should prepare for the future when the economy recovers.
There are several questions embedded in the subscriber’s request:
1) Assuming for the near-term he decides to stay in the hourly market, is ComEd’s hourly rate the most cost-effective option?
2) When should he consider switching to a fixed price contract – if at all?
3) What are the advantages of a fixed-price contract over an hourly priced electricity contract?
Is ComEd’s Hourly Pricing the best Option?
The best reason for being on ComEd’s hourly pricing is that your credit is questionable. In today’s tight credit environment, an end user can easily find themselves in a position in which no third party provider will sell them electricity. ComEd, as the provider of last resort, provides a critical service for these customers. Without ComEd selling them electricity, they’d be out of business. And like most things in life, if you have other options, some of those options are probably a better deal than the default value (i.e., ComEd’s hourly). Historically, some hourly options beyond ComEd’s hourly rate have not only been less expensive, but also provide greater flexibility when it is time to make a switch to fixed price.
ComEd’s hourly pricing is based upon PJM’s Location Marginal Pricing (LMP). This pricing is determined by the market clearing price during each hour. However, included in ComEd’s hourly pricing are some additional charges, including charges to cover lost revenue due to customer non-payment. Third party providers typically offer day (DA) ahead pricing. Historically DA has been 1 to 2 mils cheaper than LMP. However, to DA one has to add in supplier’s cost of doing business. The end result, after accounting for all the adders from both ComEd’s and a third party supplier, is that DA from a third party supplier has been approximately 0.5 mils cheaper than ComEd’s hourly. While 0.5 mils probably may not be a big enough difference to make a switch away from ComEd’s hourly (although the price difference is real), there are other differences that add up to a lot more than half a mil.
Other Advantages with Day Ahead Pricing
When it is time to switch to a fixed price contract, an attentive third party supplier can switch your supply from DA to a fixed price contract in a few days. Not only will all the paper work be completed in a few days, but also the new rate could start in a few days. You can do this anytime when you are under contract with a third party supplier. On the other hand, if you are with ComEd’s hourly, you’ll have to determine when to switch on your own, you’ll have to find which suppliers can give you the product you want, you’ll have to compare bids, review contracts, then you’ll need at least another seven days to file your Direct Access Service Request with ComEd. If all this can get done in a month, you’ll be doing well. Over that period of time the price will probably have shifted as the average month-to-month variation in the calendar 2010 fixed price contract has been 2 mils.
When to Switch to Fixed Price
When does the typical end user decide to switch from hourly to fixed price? Not when the price is flat or heading down; but rather when the price has been rising for some time, of course. So when you notice the price seems to be on a firm trend upwards, you do some calcs. Then you realize you may no longer meet your budget if you stay on hourly pricing. Then you want to switch to a fixed price contract. Well, guess what? During that time the fixed price contract has also increased in cost. Now you’ll never make your budget and you are still several weeks away from being under contract with a good supplier. There are ways to devise a plan that determines when to switch between hourly and fixed price contracts. But one of the most critical issues is being able to move quickly. What good is an excellent plan if you can’t execute in a timely fashion? The biggest advantage of being on DA with a third party provider is that you can move quickly and decisively when you need to.
Is there an Advantage to Fixed Price?
There is typically a 1 to 3 mil difference between hourly and fixed price electricity. And that makes sense. For someone else to assume the price risk and offer credit over the term of the contract, there needs to be some form of compensation. While there is a quantifiable difference over time, the difference isn’t consistent and it surely doesn’t follow your fiscal year. For example: if you examine the forward pricing for calendar year 2008 you will see that the average 24x7 block price was 2 mils less than the average hourly price. Other years it swings in the opposite direction. Therefore, the obvious advantage of having a fixed price contract is that you know what you will be paying for electricity. If you are trying to meet a budget or if your utility budget includes both commodity purchases and equipment investment, you can plan much more effectively with a fixed price commodity contract.
Anyone currently in the spot market for either electricity or natural gas is feeling rather good about themselves due to today’s low prices. In fact, they may be feeling rather smart right about now. I suggest very strongly that they may want to tone things down a bit. If you exhibited great ability in being able to time the market this time around, why can’t you do it all the time? If we are honest with ourselves we would acknowledge that no one knows where the market is headed. There are some very smart people who guessed incorrectly where the market for both natural gas and oil were going. When you read about what they did, the articles always state that they made the wrong "bet" on the direction of the market. A "bet" doesn’t imply "knowing." Or maybe they knew, until they got it wrong – then it became a bet. Even if you know where prices are headed, don’t bet all your chips on the fact that hourly pricing is going to stay this low for ever.
So what did we tell the subscriber? Look for a good third party provider that can put you on day ahead pricing while you put together a plan that will allow you to move to fixed pricing in response to market movements. And always keep an eye on the market. Otherwise, by the time you notice where things are headed, it may be too late.
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Update - ComEd Business Incentives
Recent conversations with the group coordinating ComEd’s Business Incentives program revealed that they have received applications for only half of the $16 million funds available this year. That means that there is still time to put a project together and apply for the incentives. While the incentives won’t cover more than 50% of your project, energy efficiency is the least risky method for saving utility dollars and the best method for protecting the environment. Act now!