Power trading is weather trading

The decarbonisation of Europe's Energy Industry was in focus at Swiss Re Corporate Solutions' Weather & Energy conference in Prague, which assembled more than 30 leading energy companies and weather experts to discuss this new risk landscape.

Dr.Leonhard Birnbaum from the executive board of E.ON set the tone. He pointed out that the large share of renewables entering the European energy market has changed the business environment completely. The volatility generated by oversupplies or deficits of power depending on sunshine and wind has made weather the key business driver for all energy companies in Europe. This trend will stay since technology advances will drive up the share of renewables even further.

The weather hedging challenge

As weather becomes more important as a business risk for power companies the need to mitigate that exposure increases, as Arno Gerken from McKinsey & Company pointed out. Firms need to hedge on a number of fronts. While capacity markets, which compensate generators for owning plants that dispatch only when wind is inadequate,  struggle to address the availability vs. penalty conundrum, pure power markets need to cover for price volatility. These opposites in trading environments brought another issue in the focus of the discussion: the market design.

New market designs for Europe

These are very much in flux, said Arno Gerken. Two ongoing developments will have a big impact in the future: one is the general market design: energy-only or capacity markets. The second one is the effect of the regulations for the financial services industries. While the first will define the needs of power companies, the financial regulations will determine what the range of hedging products will be.

Demand rising across the continent

No matter how markets ultimately develop, demand for weather hedging is rising across Europe. Especially Iberia, Scandinavia, Central Europe and Turkey see an increase in requests for hedging products.

That shows that weather hedging has become commonplace across Europe. What varies are the drivers for power producers. While in in Iberia heat wave related peaks are most important, central Europe focuses on temperature volatility and Turkey needs products to manage hydropower supply and temperature volatility problems.

Regulatory certainty needed most

All participants agreed that legal uncertainty is currently the biggest obstacle for the further development of hedging instruments for the industry. "Having clear regulations will help to develop the market" Swiss Re's Stuart Brown summarized the event. "Our products are there but regulators must now generate the market environment in the hedging market to get the energy transition off the ground*.

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