FERC on Thursday issued guidance to Western electricity sellers on how and when to seek exceptions for sales that exceed the region’s $1,000/MWh soft offer and price caps.

The commission was responding to concerns arising from last summer’s heat wave, when prices reached above the WECC-area soft caps that FERC adopted nearly two decades ago in response to the runaway wholesale prices of the Western energy crisis of 2000-2001.

“To address the effects of the Western energy crisis, the commission identified a number of structural reforms and market rule changes that were necessary for a robust, stable, and competitive bulk power market in California and the West,” the commission wrote in Thursday’s order (ER21-40, et al.).

Beginning in November 2000, the commission implemented “several coordinated price mitigation efforts, including offer/price cap measures in CAISO and the Western spot markets,” it explained.

“In doing so, the commission cited the interdependence among prices in CAISO’s organized spot markets and the prices in the bilateral spot markets in California and the rest of the West, emphasizing, for example, that price mitigation in the two markets should eliminate incentives for ‘megawatt laundering,’ where a supplier schedules supply out of CAISO and then reimports that power to avoid a mitigated price,” the commission wrote.

In July 2002, after CAISO proposed a comprehensive market redesign, the commission set a $250/MWh offer cap for the CAISO market and a $250/MWh soft price cap for Western spot market sales. The commission at the time said that, along with other mitigation measures, the soft caps represented a “careful balance” of the need to incentivize the market entry of new resources while protecting the markets from potential abuse.

In a later order, FERC clarified that the cap was a soft cap and that offers and prices exceeding the cap would be subject to justification and refund.

“In establishing the cap, as well as in the three previous instances when sellers have filed justifications, the commission has declined to define the justification required or predetermine the specific types of documentation a seller might provide, explaining that the commission cannot anticipate all the possible reasons a seller may exceed the offer cap,” FERC wrote Thursday.

FERC increased the cap to $1,000/MWh in April 2011, reaffirming its thinking around the interdependency between the CAISO and Western bilateral markets. In complying with FERC Order 831, CAISO this past March raised its hard offer cap to $2,000/MWh under scarcity conditions, but it still requires cost-based incremental offers above $1,000/MWh to be verified in order to set the marginal clearing price or be eligible for recovery. The WECC-area soft price cap remains in place.

Summer Prices Heat Up

The impetus behind Thursday’s order was the extended heat wave in the West last August, when tight supplies prompted rolling blackouts in CAISO and energy emergency alerts in 11 other balancing authority areas, including six BAAs that issued Stage 3 alerts. (See CAISO Says Constrained Tx Contributed to Blackouts.) During the event, Western prices repeatedly jumped above the $1,000/MWh soft cap, later requiring sellers to file with FERC to justify the cost of their sales. The commission said the transactions generally fell into four categories:

• • • physical forwards, in which physical power changes hands at a fixed price;
    • physical index transactions, in which power changes hands at a price that floats around an index;
    • financial transactions that are used as a hedge and in which no physical power is delivered; and
    • sleeve transactions, where one party acts as an intermediary to facilitate a sale between two counterparties.

FERC said that the sellers’ justification filings for exceeding the cap “typically include a report containing descriptions of the weather event and of sales made (sometimes including a narrative of how the sale was arranged (e.g., via phone call) to illustrate agreement between both parties), and tables enumerating the individual sales, counterparties, energy quantity and price. Filing parties also indicate whether they bought energy or acted as net buyers.”

The commission said that some sellers requested a waiver of the requirement to provide cost data. Tucson Electric Power justified its request by saying its “generation costs were not the determining factor in the wholesale prices at issue and would not inform the commission’s consideration of these issues.”

“In justifying sales above the WECC soft price cap for the first three types of transactions, filing parties primarily rely upon two arguments: that sales reflected the prevailing market conditions, and that the sales are protected under the Mobile-Sierra doctrine,” the commission said.

Frameworks

Given last summer’s developments and the potential for a repeat weather-driven price spikes this summer, FERC said “we find that it is appropriate to provide additional information on approaches a seller could take to justify sales in excess of the WECC soft price cap.” Its guidance is based on — but “not limited to” — three frameworks:

• a production cost-based framework in which a seller demonstrates that sales exceeding the cap can be justified by evidence of costs associated with the production of electricity. The seller would show that its actual short-run marginal cost of production exceeded the cap through documentation of fuel and operation and maintenance costs.
• an index-based framework in which a seller relies on a price index to justify exceeding the cap. A seller need not have based its sale on an index to use this framework, but it must reference an index at a specific trading hub, explain the relevance of that hub to the transaction and show that the hub met the conditions for adequate liquidity according to FERC’s standards. “To rely on a specific hub, it will be necessary for sellers, in their justification filings, to demonstrate their ability to transact near those hubs during the time periods in which the prices of those published indices were above $1,000/MWh,” the commission said.
• an opportunity cost framework in which a seller justifies a price based a demonstration of opportunity costs, which the commission said it has “long recognized” as a “legitimate component” of reasonable rates. FERC has generally recognized opportunity costs that are either “locational” (the opportunity to sell into other markets) or intertemporal (demonstrating limits on starts, operating hours and energy over a specific time frame). “Invoking the opportunity cost framework requires evidence of alternative sales options, including details on the timing, location, quantity and likely price of the alternative sale,” the commission wrote. It would also require evidence that the seller could actually deliver the energy at the time and place specified.

For sleeve transactions, in which the nominal fee that a third party typically collects to facilitate the trade causes the final price to exceed the cap, FERC said a justification filing should include an explanation of the transaction, as well as supporting documentation of the purchase, nominal fee and subsequent sale. Filings for sleeve transactions in which the underlying price exceeds the cap must rely on one of frameworks provided by FERC.

Thursday’s order also clarified that sellers in financial transactions are not required to submit justification filings because those transactions, which do not involve delivery of physical electricity, are not subject to the WECC soft cap.

The commissions also provided any parties with pending justification filings an additional 30 days to amend their filings in response to the new guidance.