Volatility in the California power market: source, methodology and recommendations

Extreme short-term price volatility in competitive electricity markets creates the need for price risk management for electric utilities. Recent methods in California provide examples of lessons that can be applied to other markets worldwide. Value-at-Risk (VAR), a method for quantifying risk exposure in the financial industry, is introduced as a technique that is applicable to quantifying price risk exposure in power systems. The methodology for applying VAR using changes in prices from corresponding hours on previous days is presented. Prices for electricity for the summer of 2000 are examined against previous periods to understand how the hourly VAR entity is exposed when the power system is obligated to serve a load and does not have a contract for supply. The VAR methodology introduced is then applied to a sample company in California that is serving a 100 MW load. Proposed remedies for the problems observed in the competitive California electric power industry are introduced.