Summer Heat Prompts Power Price Creep

Recent soaring electricity prices prove last June's spikes were not an anomaly.
Author:
Publish date:

Although most power traders thought last June's power price

spikes were an anomaly of an immature market, recent price surges suggest otherwise.

Temperatures from Poughkeepsie to Phoenix have recently hovered near 100 degrees and electricity prices have reached record levels. On Friday, trades as high as $9,000 per megawatt hour (MWh) were reported. That eclipsed last summer's record of $7,500 MWh.

But the price spikes of 1998 were followed by outcries of market manipulation and a full-blown

Federal Energy Regulatory Commission

hearing, whereas recent price surges are considered part of the business. "That's the way the markets work," says one power trader. "There's only so much supply, and when demand pushes the limits, prices rise and rise quickly."

Demand for electricity during peak periods in the past two years has pushed power providers to the limits. It has forced prices higher, strained power plants and resulted in severe bottlenecks in the transmission system. The end result? A challenged electricity system.

"Electric demand growth, unexpected

plant outages and the reluctance of utilities to commit to building new capacity in the face of uncertainty have led a number of utilities to impose rolling blackouts in an effort to manage the problem," says David Wagman of

Resouce Data International

, a Boulder, Colo., energy consulting firm.

Examples of the heat-related problems abound. Last week

Entergy

(ETR) - Get Report

reportedly imposed rolling blackouts after two generation plants lost power. A brief brownout in the Atlanta area occurred after peak loads were measured at

Southern Company

(SO) - Get Report

and at several electric cooperatives.

Cinergy

(CIN)

and

Indianapolis Power & Light

, a unit of

Ipalco Enterprises

(IPL)

, warned of possible power shortages as the mercury hit record levels. And earlier this summer, New York City and parts of New Jersey experienced blackouts as

Consolidated Edison

(ED) - Get Report

struggled to meet peak demand.

With forecasts calling for summer temperatures to remain above average, the potential for additional power-price surges is high. A quick look at the winners and losers over the past two weeks provides an outlook for the coming month.

Power for Sale, at Shocking Prices

A number of companies were forced to buy power to meet increased demand during the recent heat, many paying record prices. For example, Wisconsin utility

Alliant Energy

(LNT) - Get Report

paid $6,000 MWh to meet peak demand. Other utilities that bought power during peak pricing periods include Cinergy, Entergy,

FirstEnergy

(FE) - Get Report

, Indianapolis Power & Light and

Kansas City Power & Light

(KLT)

. Another trader indicated that

Duquesne Light

, a subsidiary of

DQR

(DQE)

, was also a buyer, paying $9,000 MWh for one block. A spokesman for Duquesne could not be reached for comment.

Although most companies are reluctant to discuss the prices they pay for power on the spot market, Entergy, Indianapolis Power & Light and Kansas City Power & Light confirm they were buying power during peak demand periods. "We did buy power last week and prices were higher than normal," says Entergy spokesperson Carol Clawson.

However, Alliant spokesperson David Giroux says that utility disclosed its transaction to demonstrate the need for additional power generation capacity in Wisconsin. "We did pay $6,000 MWh for 200 MWh of power," he says. "That's $1.2 million, which is a lot of money for electricity. It clearly indicates we need additional generation capacity." Giroux says the lofty prices the company paid for power will quell earnings in what would have been an otherwise lucrative July. "We would have been much better off had we not paid so much."

Other companies were reluctant to discuss the financial impact of high-priced power purchases. One buy-side analyst says it's likely to have a material impact on many utilities. "It's not a cost they can easily pass through to customers; it's an unexpected expense," the analyst explains.

Generally, large traders of power benefit from big price movements, and a handful of sellers appear to have benefited from last week's surge in electricity prices. Sources tell Power Lines some large trading operations cleared more than $3 million in one trading day during the recent heat wave.

"Those skilled at managing risk appear to be winners," says

Schroder & Co.

utility analyst Ray Niles. "A lot of the same names from last year with size, scope and experience are on the list." He cites companies like

Enron

(ENE)

,

Dynegy

(DYN)

, and

Duke Energy

(DUK) - Get Report

as well as larger utilities like Southern and

Reliant Energy

(REI) - Get Report

that were likely selling power into last week's price strengths.

Additionally, a handful of regional utilities, including

Allegheny Energy

(AYE)

,

Illinova's

(ILN)

Illinois Power

,

LG&E Energy

(LGE)

and

Western Resources

(WR)

, fared well. Again, although most companies aren't willing to openly discuss trading transactions, traders say these companies clearly benefited by selling excess capacity.

Two of the companies mentioned -- Illinois Power and LG&E -- turned last year's lessons into this year's gains. Both were big losers during the June 1998 spikes but did well over the past two weeks. Neither company would give specifics, but Illinois Power acknowledged the turnaround.

One reason for the turnaround may be parent company Illinova's pending

merger with Dynegy. Already, Dynegy is assisting Illinova with risk management, a strategy Niles believes led to the gains. "Dynegy brings tremendous expertise to the table, something Illinova didn't have before the merger."

Western Resources, a Midwest utility recently down on its

luck, also received a shot in the arm because it could sell excess power as temperatures rose. "All our plants are running at 100% and we had some extra power to sell," says Jim Martin, director of investor relations at Western. "It's nice to be on that side of the trade in cases like this."

Western sold power for as much as $2,500 MWh. Martin adds, "We could have sold even more had we been able to deliver it" -- an indication that the transmission grid also was stretched to its limits. If Western continues running on all cylinders through August and September, says Martin, the recent power sales will add to third-quarter earnings.

To be sure, many utilities felt the pinch of recent rising temperatures and higher power prices, but there are distinctions between this heat wave and the 1998 price spikes. First, now there is little panic in the markets. "Trades were very orderly," says one utility insider. "Most trades were utilities striving to meet their native loads, not poorly capitalized power traders trying to make a quick buck only to realize they were in way over their heads."

If the last two weeks of July are any indication, look for the power markets to remain scalding hot through August.

The Sin in Cinergy

Cincinnati-based Cinergy may feel the lingering pain of the recent heat wave. According to one trader, Cinergy halted several power deliveries because its transmission system was overloaded. The cancellations pushed several companies to buy power from other sources at higher spot market prices. "A lot of companies are upset with Cinergy, saying they'll never trade there again," says the trader. "It's a matter of economics: Cinergy's decision cost several utilities a lot of money." A company spokesperson says it's the company's policy to refrain from commenting on specific trading issues.

In a related matter, sources tell Power Lines that talks between senior executives at Cinergy and LG&E about a business partnership have resumed. A combination of the two companies has been rumored for months, but the deal apparently fell apart earlier this year when the companies couldn't agree on financial terms. Our sources say an announcement is imminent. Neither LG&E or Cinergy would comment on the news.

Christopher S. Edmonds is president of Resource Dynamics, a private financial consulting firm based in Atlanta. At the time of publication, neither Edmonds nor his firm held positions in any securities mentioned in this column, although holdings can change at any time. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. While Edmonds cannot provide investment advice or recommendations, he welcomes your feedback at

invest@cjnetworks.com.