Navigating the Hub-Node Gap with Creative Contracting.
There is no single price of electricity in the United States. While the price of a barrel of oil is set nationally, electricity is set locally – and fluctuates based on grid mix, time of day, and many other factors in a given region. As we’ve discussed in our Forecasting Webinar and our recent blog on the impacts of Venezuelan oil on clean energy prices, all energy market dynamics are interrelated. So when it comes to deciding whether to build or invest in a clean energy project like a solar or wind farm, the difference in electricity prices by region, and volatility in price over time, make all the difference for project success.
What do local price dynamics have to do with a solar farm’s ability to pay back its loans over time? The devil is in the details. And the details are called basis risk.
Background: The US electricity system’s hub + node structure
The US electricity system is made up of tens of thousands of nodes, where load and generation connect to transmission and distribution lines to form a giant, interconnected grid. A node may be a single solar plant, a collection of gas turbines, a datacenter, or a substation feeding thousands of homes. Each of these nodes has its own power price.
Groups of nodes are organized into hubs. Hubs are virtual trading points, where the price is the average of all the nodes within the hub. (An example of a hub)
Most power purchase agreements (PPAs), where corporates or utilities agree to long-term contracts to buy power, are settled at the hub. Every month, the contract is settled by calculating how much money the developer would have made from selling their power to the grid at the hub price, how much money the developer is guaranteed by the PPA signed with a corporate or utility buyer, and “settling” the difference. If market prices were low one month at that hub, the buyer sends the developer money to get them to their guaranteed PPA revenue. If prices were high one month, the developer sends the buyer the extra money that came in the door.
In this article, we’ll walk-through an example of a real project and make the math behind settling clear. We’ll show how risk is shared between developers and buyers, and how to share risk to increase success.
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