Capacity markets exist to ensure that there are adequate generation resources available in the market to meet future peak demand of the electric system. They also provide a guaranteed source of revenue that helps to incentivize investment in new and existing generation resources.
Generating units that clear the auction get paid for their capacity regardless of whether they produce electricity, but are obligated to produce electricity when called upon by the Midcontinent Independent System Operator (MISO).
MISO’s footprint covers 15 states across the midwest US, though only one state — Illinois — has a fully restructured, competitive retail electricity market. This is an important factor for explaining why Zone 4 (Ameren IL) cleared at a much higher price than the rest of the MISO zones.
All of the regulated zones in MISO cleared at a lower cost due to the fact that the regulated utilities self-supply capacity using their own generation resources, the cost of which is recovered through state-regulated electric rates. Since these utility-owned units do not require capacity market revenues to cover their operating costs, their generation can be bid into the auction at a lower cost.
How it Works
In Zone 4, generators who participate in competitive wholesale markets bid in their units at higher prices in order to account for their operating costs that cannot be recovered from ratepayers.
Under a competitive market structure, capacity auctions are used to maintain needed existing resources and the price signal the auction provides guides investment in existing and new resources when and where needed for reliability at the lowest cost. As a result, capacity prices in the southern Illinois region cleared higher than in other MISO states, but in-line with prices in PJM’s competitive northern Illinois (ComEd) region for the same planning year. For Planning Year 2015/16 (PY15/16), prices in PJM’s ComEd zone cleared at $136/MW-day versus $150/MW-day in MISO’s Zone 4.
Another driver of higher prices in Zone 4 is that due to NERC’s resource adequacy criteria, a certain percentage of the total capacity obligation within a given zone must be met by generation resources physically located within that zone. This means that out-of-zone cheaper capacity resources, even when available, cannot be imported to satisfy zonal capacity needs until the given locational clearing requirement is met. Even though more capacity was offered into Zone 4 than was required to meet demand, this local capacity requirement led more expensive resources to clear the auction in Illinois over cheaper resources that otherwise could have been imported from states with regulated markets.
What is the Impact to Constellation’s Retail Electricity Customers?
Luckily, current Constellation retail power customers under contracts with fixed capacity costs will not see a change on their bill through the end of their current contract specifically as a result of the higher clearing prices for PY15/16.
For customers taking capacity charges as a pass-through cost, your invoice will reflect the updated capacity rate for the period beginning June 1, 2015. Please review your contract for details.
All current or prospective customers receiving pricing from Constellation for new contract terms past June 2015 will see the new capacity rates reflected in the pricing.
Strategies Energy Buyers May Want to Consider
Given the significant increase in capacity costs, customers in the Ameren zone should be careful when comparing future contract prices to their current “all-in” fixed price. Higher capacity costs may increase fixed contract rates going forward, even if commodity costs are lower for future contract terms.
Energy buyers should also carefully examine contract language from suppliers that may allow future changes in capacity market rates to be passed on, especially in light of potential capacity price uncertainty.
Due to the short planning horizon of MISO’s capacity auction, retail customers may be exposed to greater budgetary risk from rising and falling capacity rates. Unlike PJM’s capacity auction where capacity rates are known three years in advance, MISO rates are known only two months before the start of the planning year.
Contact your Constellation Business Development Manager to discuss potential strategies that may help manage your energy budget around this capacity price risk.