Last winter saw some of the widest spreads for power pricing ever to occur in the Northeast. Some customers saw monthly bills double or triple, relative to the same month in prior years. What happened, and could it happen again?
Several factors influence hourly and daily power pricing, including the wholesale price of fuels, outage of a power plant or transmission line, or a sudden jump in power demand. Last winter, we experienced a lot of the first, some of the second, and a chunk of the third. The largest impact was the huge jump in the local price of natural gas, which supplies, on average, over 60% of power in the NYC region. The wholesale price of gas at the Henry Hub in Louisiana increased from a norm of about $4 a dekatherm (dTH) to over $7 on several days. The local price for Transco Zone 6 for New York City pushed that up to over $30 a day most of the time and more than $120 on a few occasions. When natural gas is traded, the difference between the Henry Hub price and a specific location for delivery is called basis.
These high gas prices might have been mitigated in the past by switching to oil but this was not an option this year. The fuel oil supply and delivery infrastructure in New York City have shrunk significantly in recent years. As a result, a sufficient fuel oil supply was not often available to mitigate the distress caused by high gas prices.
Federal regulations treat pipelines as common carriers and limit the profits of pipeline owners. But once that capacity gets “rented” by investors and speculators, the sky’s the limit on what they can add to local gas pricing for the use of the pipe. Likewise, any other type of capacity holder e.g., gas supplier or utility, can “release” it at the prevailing value. A bump of $1 per dekatherm of gas used to make power roughly translates into a rise of $.01 per kilowatt-hour. During days that gas hit $120, wholesale power costs reached over $1 per kilowatt-hour. Due to the grid’s hourly pricing mechanism, that “clearing” price gets paid to all supplying generators – gas, hydro, oil, and nuclear, regardless of their actual operating costs. That may push short-term retail pricing up very high. Worse, unlike the electric markets, the natural gas markets do not have open and transparent price-setting mechanisms to prevent self-dealing and other market power abuse by capacity holders. To provide fixed-price power without going broke, generators may instead lock in the basis for the gas they buy, but that adds to the energy prices we pay.
Once gas demand drops, however, the value of pipeline capacity crashes to only pennies or maybe a dollar per dekatherm. The clearing price for power then also dives; contributing to a roller coaster ride that makes the Great White in Wildwood look tame.
Some utilities “hedge” by using financial tools to limit price swings for their smaller customers. Many customers, however, are moving more toward variable energy pricing, essentially passing through the wholesale cost of electricity with all its volatility. For their larger customers, several New York City area utilities already charge floating energy prices that closely follow hourly or daily wholesale markets. Thanks to the proliferation of smart meters reporting kilowatt-hours (kWh) use in 15-minute periods, the demand threshold (kilowatts) for such pricing is gradually dropping. In NJ, customers with peak demands over 750 kW are affected, and there’s pressure from retail suppliers to lower it. Up the Hudson Valley, the limit is 250 kW. In Con Edison, it may drop from the present 500 kW down to over 300 kW in the near future. That will push almost 1,000 customers presently taking utility commodity services to consider buying from a competitive retail supplier to achieve rate stability.
Until more pipeline capacity gets added and new market rules bring transparency to pipeline capacity and gas commodity trading, expect this ride to continue. As buildings shift from fuel oil to natural gas for space heating, competition for gas during cold spells will only increase, providing an easy target for basis speculators. To protect yourself, ask your energy consultant for ways to craft purchasing strategies that mix floating and fixed pricing to capture the benefits of both, while limiting the downsides of each.
