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How to Quote Business for Electricity? - Introduction

How an offer price for electricity is calculated? From my observations, there are few experts and information about this subject and the exchange of knowledge is rather scant. That's why I decided to write a series of articles about the determination of electricity prices quoted for companies. If you either prepare price lists or offers, or you compare them to choose the most optimal one, this material may be helpful to you. Here you will learn the currently applied practical approach which assures that the final quote conforms to the real market conditions as well as to the client's load profile.

Generally, the offer price, among others, contains:
  • delivery hedge cost (that is the 'black energy' cost),
  • premia resulting from certificates, risks, settlement dates, margins,
  • distribution and transmission fees.

In this article, I'll concentrate only on the general idea of the determination of the hedging cost. The other costs related to licences, market access, guarantees or IT tools are not the subject of this presentation.

As the basis for settlement in Poland is the hourly spot market, the hedge should be applied to the hourly positions for the whole delivery period.

In order to illustrate the five steps of the algorithm, I'll use the title graph. The graph is simplified, as it covers only 24 delivery hours, yet in the whole leap year 2020, there are 8784 hours.

1. Profile Projection

Firstly, we generate the hourly profile projection, that is the expected load volumes - represented by the blue curve on the rear wall of the graph - based on the information about a client (branch, invoice data, overall delivery volume).

2. Forward Price Structure

Secondly, we generate the price structure, that is the future hourly prices of energy on the spot market - represented by the blue curve on the lower wall of the graph - based on the past spot market prices (curve shape) as well as on the actual forward market prices for yearly, quarterly and monthly standard products (curve level).

3. Position

Then, we determine an hourly position, that is the hourly products of volumes and prices - these are the blue cuboids on the graph.

4. Hedge Products

Afterwards, we choose the volumes of the standard hedge products in such a way, that their total position - which is the sum of the volumes of the orange cuboids on the graph - be equal to the overall position being hedged - which is the sum of volumes of blue cuboids.
There are two orange cuboids on the graph - one for the base and one for the peak (in Poland the peak is defined between 8:00 and 22:00 in working days), but there can be either one or many of them - it depends on what products are available on the market at the moment and if it's really worth buying them for hedging.

5. Hedge Cost

In the end, we determine the hedge cost, that is we calculate the sum of volumes of the orange cuboids on the graph divided by the total delivery volume.

The above algorithm can be simplified in such a way to hedge the volume instead of the position - then it's not necessary to generate the forward price structure. However, there is a risk that due to the adverse correlation of price and load volume the hedge products will not be chosen optimally. If, for example, a client consumes more energy in the second half-year than in the first one, and in the second half-year we expect higher prices than in the first one, then - hedged with the yearly base product only - the surplus gained in the first half-year will not compensate for the loss in the second half-year. This risk is not worth taking if the forward price structure is generated regularly, e.g. in order to calculate the value of the whole sales portfolio.

It is reasonable to calculate quotes by taking into account the portfolio effect, e.g. as a difference between the hedge value for the whole portfolio with a client and the hedge value of the portfolio without a client. It is worth doing so especially when premia stemming from risks are calculated on the portfolio level.

Of course, the processes of quotes determination should be automated in order to assure:
  • prompt reaction to make an offer,
  • confidence that there will be no errors,
  • process audit and compliance with the existing internal regulations.

In case of any questions or remarks, we are looking forward to hearing from you.

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