Improving the Forward Curve for Green Power

Problem: Financing Constrains Renewable Energy Development

As renewable energy project developers know full well, financial institutions demand certainty. Financial resources for traditional power projects are conditioned on the existence of long-term power purchase agreements (PPAs). But due to the cost of doing business renewable energy project developers are asked to demonstrate long-term commitments for the purchase of not only the electricity, but also the RECs.

Many project developers are finding a market for their electricity, but power sold at market rates does not go far enough to recoup investment in most renewable power projects. Banks are hoping that projects can improve their bottom lines and achieve profitability faster by forward selling the renewable energy credits, in many cases separately from the power itself.

However, long-term sales of RECs have been very difficult to execute. Despite a number of state renewable portfolio standard (RPS) programs set up to facilitate compliance trading in RECs - and a nascent wholesale nation-wide voluntary REC market - forward sales of RECs rarely exceed five years. This is short of the typical 10-year REC sale agreements most banks require before financing a renewable energy project.

Solution: REC Forward Curve

State policy makers created RECs as a means to monetize the environmental and fuel diversity benefits of renewable power. Sure, these projects produce electricity, but they do so without many of the environmental impacts of traditional fossil fuel generation. There are now more than 19 states and the District of Columbia that have created state legislation, which require entities selling electricity in these states to have a specific portion of their supply from renewable sources. In addition to buying renewable power directly, companies in many states can also purchase just the RECs to meet their RPS requirements.

These RECs are being traded in nascent markets that have yet to attain the liquidity, efficiency, and transparency needed to develop investor assurance. Most RPS programs have been implemented in states with deregulated energy markets. Competitive energy suppliers in these markets usually only have certainty in their load for a period of 1-3 years, because of how load is auctioned in cycles. For this reason trades are usually made for compliance with the current year's obligations - not for long-term sales that extend several years.

Long-term trading is also hampered by regulatory policy in individual states or regions that continues to be in flux. Several states continue to fine-tune their RPS requirements, including the mechanics of trading mechanisms in response to renewable energy supply and demand considerations or other public policy goals. If regulation was more certain and uniform across regions liquidity and price transparency would improve, inviting the entrance of additional speculative capital to the REC markets.

This market-generated view of future REC prices is called the forward curve, and it is a common factor in all types of commodity trading from energy and metals to soft commodities like coffee or sugar. Establishing a forward curve would greatly increase the amount of renewable energy facilities being built because developers could more easily obtain financing.

Benefits of the Forward REC Curve

Banks and other financial institutions look for revenue streams for extended periods of time to determine the economic feasibility of projects. Knowing that a developer can sell his or her RECs for a 10-year term allows these financial institutions to have the confidence they need to lend a more substantial percentage of project costs.

In addition, creating a stable forward market allows market speculators to enter into the marketplace. As speculators enter the marketplace, there are more potential buyers and sellers of RECs at any given time, enhancing liquidity. Once a marketplace becomes more liquid, participants become more confident in both the viability of the market and price stability. The price volatility of today's liquid and short-term REC markets has scared off participants who feared they might have gotten caught on the wrong side of a trade, unable to exit their positions.

How to Establish a Forward Curve

The key to creating a viable forward curve lies in transparency and regulatory certainty. Foremost, there must be stable regulatory policy underpinning REC markets. If the rules governing state RPS and REC trading remain consistent, REC market players can make long-term decisions without the risk of regulatory change.

In most state RPS, a premium is put on certain types of renewable generation that provide the most environmental benefits, such as photovoltaic solar, wind, landfill gas, and in some cases biomass generation. These premium renewable sources are often labeled "Class 1" or "Tier 1". States could provide additional clarity by creating uniform market standards for Tier 1 or Class 1 generation. Standards for these generation sources differ by region. Coordination of these standards will allow the market to more easily trade specific tiers or classes of RECs over broader geographic regions with consistent price expectations, bolstering the forward market.

Market transparency must also be improved in order for a forward curve to develop. Buyers and sellers in the REC market can more easily make long term trading decisions if they are fully aware of supply conditions and market prices. REC tracking systems that market participants can trust and that effectively account for market supply are essential. Price transparency is vital as well. Evolution Markets was the first to offer daily updates on REC prices through its online evo.ID market data system. This bulletin board is publicly available and the belief is that the improved availability of accurate price information will give the market confidence to engage in forward trading.

Lastly, a successful forward REC market will depend on the entrance of new participants. These participants will need to be entities willing to take on risk for substantial upside, either by bridging the gap between wholesale term deals and retail sales to compliance buyers, or by serving as credit-worthy counterparties themselves. Renewable energy project development is poised to leap from a niche to mainstream market, but first REC markets will need to align with the same forward structure currently available in traditional energy markets such as fuel and power.

About the author...

Andrew Kolchins is a Director, Renewable Energy Markets for Evolution Markets LLC. Working from Evolution Markets' White Plains headquarters, Mr. Kolchins leads the company's brokerage services focused on facilitating trades in the compliance driven state renewable energy certificate (REC) markets in the Northeast and Texas, providing expert brokerage service to renewable energy project developers, green power marketers, traders, utilities, and end users. With extensive structured transaction and energy markets expertise, Mr. Kolchins serves customers in regional compliance REC markets. He will also seek to leverage environmental credit markets to coordinate renewable energy project finance, facilitating an overall increase in regional renewable energy capacity. Mr. Kolchins joins Evolution Markets from Green Mountain Energy where he built and managed the sales team for Sunshine Energy, a premium program for Florida Power & Light (FPL) that allows residential customers of FPL to purchase a cleaner form of electricity for the grid. Before working with Green Mountain, he served for seven years as a broker of natural gas swaps, options, and physical basis trades for a handful of institutional brokerage firms. Mr. Kolchins also assisted in the development and marketing of Bloomberg's online energy trading platform, PowerMatch.


The information and views expressed in this article are those of the author and not necessarily those of RenewableEnergyAccess.com or the companies that advertise on its Web site and other publications.

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Total Comments (9) reader comments on this story
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-- Adrian Akau, January 31, 2006
Andrew Kolchin are truly comprehensive. The renewable energy industry cannot have a true market until it attains stability. As the master says, market interest in renewables is presently in its infancy. The changes he suggests must be further implemented before renewables become acceptable as every day investment commodities. Right now, many investors are not willing to touch them with a 10 foot pole. Just wait until the price of oil hits $150 a barrel, Andrew.

adrianakau@aol.com

-- Charles Butterfield, January 31, 2006
During the great depression of the 1930's President Franklin Delano Roosevelt implemented the Tennessee Valley Authority.

The Tennessee Valley authority probably deserves more credit than any other source for developing our modern electrical grid, and establish electricity as a dominant source of energy, rather than merely a supplemental one for the wealthy people who could afford it.

Investors did not like this new invention of electricity. It was too uncertain. It was merely a luxury only for the wealthy. Kerosene lamps were the source of light for a large portion of the population.

This large government project demonstrated the desirability and reliability of electricity. It also created the demand that the investors were looking for.

(contiinued)


-- Charles Butterfield, January 31, 2006
Can you imagine what we could accomplish if we spent the money that we are spending on the war in Iraq on renewable energy instead?

We would not have to sit around and wait for the investors. We would lead the way on renewable energy. This country could become energy independent, we would not have to import oil from the middle east, and we would dramatically reduce our greenhouse gas emissons.

We have a tremendous opportunity coming up for us in 2008. We will be electing a new president in 2008. We should elect someone who is willing to implement a Tennessee Valley Authority type project to develop renewable energy sources as the dominant souce of energy, not merely a supplemental one.

And we do not want to be left to the whims of the investors when it comes to renewable energy.

Thank you,
Charles Butterfield


-- Werner Loell, February 1, 2006
It's too late to stop the disaster and the eventual extinction of ours and other vulnerable species, just like the dinosaurs, except they did not cause climate change.

-- Roy Bauer, February 1, 2006
I agree there is not enough liquid and the states are in flux. They will continue to be as more and more developments arise.
This is a competely new world that is growing by leaps and bounds. It is no longer going to be about power generation. But about how the power is generated, or distributed.
With a broader means of developing and transporting comes with a broader market. So we do not depend on any (one) or become dependant on any (one) be it a person, place, or thing again.

-- Francis Golden, February 1, 2006
The Renewable Obligation (RO) in the UK requires the distribution companies to obtain 10% and increasing year on year, of their supplies from renewable sources.
Intermittant power, e.g. wind and tide, still needs a backup. Nuclear cannot do this: it cannot switch on and off. There is a still a need for a continuous supply that is currently coming from fossil fuels. However
coal incineration produces harmful emissions and LNG: CO2 and negative balance of payments.
Pyrolysis (non incineration) of the bio-degradable part of waste is eligible for ROCerts. This is struggling to get established due to obtaining contracts from waste authorities to take to the Banks. The waste authorities will not accept a tender unless backed by a contract, - Catch 22.
Ironically the first plant is probably to be in the USA; converting waste tyres to produce heat and power.






-- Charles Butterfield, February 1, 2006
Werner:

Thank you for your exaggeration and hyperbole. It is not too late to reverse climate change by any stretch of the imagination.

In fact, we have the greatest opportunity that I have seen in the past forty years to make renewable energy sources the dominant energy source instead of fossil fuels.

That opportunity also carries with it great risk. If we do not act quickly, fossil fuels will be repaced with nuclear power plants, not renewable energy sources.

One of the best ways to get some influence that I have found is to help a political candidate that supports your point of view.

I recommend: Get started helping on a congressional campaign for a candidate who supports renewable energy.

Thank you,
Charles Butterfield


-- Roy Bauer, February 2, 2006
The climate has bean getting warmer even before the industial development. The thing is that we have the means to try to stable the climate before it takes a serious turn for the worst. The problem lies with not just our goverment. But with the industry as we know of it.
Question is it the fosil fuels or is it the electromagnetic field of the earth. Or could it be the amount of black top that we use on our roads. Or could it be the amount of asfalt on our roofs. Or just the amount of dark color with both. Or is it some thing that the earth goes through.
The idea is that we know what is harmfull to us. We know that in a closed enviroment it is bad for us. But because it is so good for our pocket books, and that we neeed it to live off of today. There is no body going to do anything today about it.

-- Roy Bauer, February 2, 2006
That is why I am here today to talk about it and to bring it to every bodies attention. We must change our ways.
Even if it has some thing to do with just about money. Every were you go a person has to use money or curency. It is not about how much we teach or tell our children how to live any more. It is about how we teach our childern how to spend or make money. Not about how we use or conserve or enviroment any more. This is just some of the things that have to change.

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