What is European and US Power Trading?

Barclay's Exit Is An Opportunity to Reflect

With Barclays announcing the closure of their European and US power trading operations earlier this year, we might reflect on what this business was actually about.

First Step to Understand Power Trading

To understand power trading it is important to understand spark spreads and dark spreads. To understand these spreads, you must think of the cost of power relative to the cost of the fuel required to generate that power. This is vital for a power plant operator to understand.

The Art of the Spark Spread (and what it means for the Spark Spread to be Positive)

Intuitively, the spark spread is the theoretical margin (crude measure of profitability) for a power plant. If the spark spread is positive, it means the price of power is greater than the cost of the fuel. Positive spark spreads means happy days for power plant operators!!

Within the US, spark spreads vary by geographical region and by season. New York City area tends to have relatively high spark spreads.

Measuring the Spark Spread

Spark spreads can be measure in $ per megawatt-hour. The calculation is as follows:

Spark spread ($/mwhr) = Power Price ($/mwhr) - [natgasprice ($/mmbtu) * heat rate (mmbtu/mwhr)].

The mmbtu's cancel out and you are left with $/mwhr.

What does the "heat rate" represent in the spark spread equation

The heat rate represents the efficiency of a generating unit. Market participants tend to use a benchmark heat rate for their calculations, e.g. for their daily prices EIA uses a value of 7,000 Btu/kWhr, representing a fairly efficient natural gas combined-cycle generator. The greater the efficiency of your generating unit, the greater spark spread you can realise as an electricity supplier.

Spark Spreads versus Crack Spreads in Petroleum Markets

Spark spreads tend to be more volatile than crack spreads, due to the volatility of wholesale electric power prices.

Spark Spread versus Dark Spread (Gas versus Coal)

Spark spread is power producer margin for gas-fired power station. Dark spread is the equivalent measure for coal-fired power stations.

Quark Spreads

An analogous measure for uranium-based power stations.

How do you trade the spark spread?

You can trade the spark spread by replicating using "paper" contracts, what the electric producer does. You do this by buying natural gas futures and selling electricity futures. You have then set up a "paper generator".

Shell and BP to Supply LNG to Kuwait

Kuwait's demand for LNG imports began in 2009 mainly to provide energy for air-conditioning during the summer months. The current deal is for Shell/BP to supply LNG for five to six summers hence, totalling around 2.5m tonnes a year. KPC has previously signed deals with Vitol as well.

"Always Keep Learning" - Useful Advice from Microsoft's new CEO

Microsoft's new CEO, Satya Nadella, hails from Hyderabad, India (the capital of Andhra Pradesh) and studied at the University of Mangalore (or Mangalapuram in Malayalam, which is close to the Arabian Sea) where he got his Bachelors in Electrical Engineering.

He has been at Microsoft since 1992. The full form of his first name is Satyanarayana.

As Microsoft's third CEO after Bill Gates and Steve Ballmer, he will be paid $1.2m a year, plus be eligible for a cash bonus of up to $3.6m. In an interview with the Deccan Chronicle, he shared some insights into his work philosophy: "You stop doing useful things if you don't learn".

How Should Commodities Be Regulated?

The recent takeover of JP Morgan's physical commodities business by Swiss trading house Mercuria (founded by two former Goldman Sachs traders, or more specifically Goldman Sachs J Aron unit, after spending time at Cargill) for $3.5 billion, is an ambitious move for the relatively new commodities trader, starting out as a ten-person team supplying oil to Polish refineries.  It now employs over a thousand people, with revenues topping over $100bn last year. Analysts remark that the remarkable fact about Mercuria is its aggressive efforts to scale the business. How would Mercuria be able to succeed where JP Morgan could not? One answer lies in regulation.

As Mercuria is not a bank in the sense that it does not take deposits from customers, regulation is different than for a deposit-taking institution. Further, it falls under Swiss regulation rather than North American legislation. JP Morgan's exit is prompted by capital constraints and increasing regulatory scrutiny, particularly on US banks that have been the subject of controversial bailouts. So uneven regulation is one source of competitive advantage that Mercuria has over JP Morgan.

It should be emphasised that the duo who built Mercuria, Marco Dunand and Daniel Jaeggi, came from a banking background, and it is remarkable that they have found a way to leverage that while succeeding in a way that banks have failed.