Nordic power exchange aims for global expansion
After its recent partnership with the US-Swedish stock exchange operator Nasdaq OMX, the Nordic power exchange Nord Pool is looking for further international expansion. The next target is the UK.
At noon on a Friday, prices are being set at the Nord Pool Spot power exchange (NPS) in Lysaker near Oslo for electricity to be supplied the following day. This process, which determines wholesale electricity prices in Norway, Sweden, Finland, Denmark and eastern Germany, is managed by just two specialists working at their trading desk - supported, of course, by a highly automated system. In just a few minutes, the computers have done their job and calculated area prices for seven zones in five countries.
Every day prices are calculated for each of the 24 hours for the following day. On this day, the lowest price for one hour – €40.86/MWh – holds in Finland, in the northern part of Norway and in Sweden. ‘There is no congestion in the flow of power between these price zones,’ explains compliance manager Hilde Rosenblad. Congestion occurs when the capacity of the transmission lines is insufficient to transport enough electricity from one area, where power supplies are high, to another, where supplies are low.
The prices clearly show in which areas there is little congestion. In southern Norway and western Denmark, the price of electricity is relatively low, at €41.00. In contrast, the flow of power to Denmark’s eastern island of Zealand and to eastern Germany is restricted as a result of bottlenecks in the transmission lines. The result is higher prices: €46.77 in Zealand and €52.43 in eastern Germany.
As Rosenblad explains, electricity very often flows from Germany and Denmark to Norway, Sweden and Finland during the night, and in the opposite direction during the morning, daytime and evening. This is because the northern area relies predominantly on hydropower, which can be easily shut off at night when demand is low, whereas the German-Danish area relies on thermal power plants, which are more difficult to adjust, and therefore suffer from excess capacity at night.
The balance between the different price zones is usually managed without any difficulties, although there happened to be a problem for two of the hours on the previous Sunday. ‘The system discovered a shortage in Zealand,’ Rosenblad says. ‘For these hours the transmission capacity from Sweden to Zealand was set to zero and the supply in the area was not sufficient to cover demand’. According to the Rulebook for the physical markets, NPS is entitled to ask the Transmission System Operators (TSO’s) for more transmission capacity in such a situation. The Swedish TSO, Svenska Kraftnät, agreed to increase the export capacity. A strong price increase was thus avoided.
The prices set at the NPS not only apply to power supplied the next day, they also act as reference prices for future and forward contracts with terms of up to six years, which are traded through Nord Pool (NP), NPS’s sister exchange also based in Lysaker. Market players use these derivative contracts to manage price risks in the volatile electricity market.
NPS and NP can boast extensive experience in power exchange trading. Their predecessor, Stattnet Market, started power spot trading in the deregulated Norwegian market in 1993. Three years later, Sweden joined the market, and the power exchange was renamed Nord Pool (NP). Finland and Denmark were integrated into the Nordic power exchange area by 2000.
In the same year, NP was involved in the founding of the Leipzig Power Exchange LPX in Germany. Using market-tested systems and expertise from Scandinavia, the LPX competed successfully with the Frankfurt-based European Energy Exchange EEX, but after two years, the two German power exchanges merged into EEX, based in Leipzig. NP subsequently sold its shares in EEX in 2008 to the German energy exchange Eurex, making Eurex the largest shareholder in EEX.
In 2002 NP split its growing business into two operations: NPS became responsible for physical power spot trading, NP kept the clearing and derivatives trading activities. In 2005, NP was the first commodity exchange to start trading contracts in European Emission Allowances (EUAs) under the EU Emission Trading Scheme and later Certified Emission Reductions (CERs) which are emission reduction credits under the Kyoto Protocol. While this activity has remained somewhat limited, NPS and NP have managed to consolidate their leading position in power trading in Europe. Nevertheless, NP has been faced with growing competition from other exchanges in recent years. ‘This is a race for volume, and it’s a price competition,’ explains Geir Reigstad, head of the newly formed business unit Nasdaq OMX Commodities (NOC). ‘We want to to get more volume to our existing platform and we can do that due to our economies of scale.’
Consequently, NP opted to enter into a strategic partnership with the Swedish stock exchange company OMX in December 2007. At the time, OMX was itself being taken over by the US stock exchange operator Nasdaq. Thus, the resulting US-Swedish stock exchange operator Nasdaq OMX acquired NP’s clearing and consulting operations and international derivative products. In October 2008, the new business unit for international energy derivatives, NOC, started operations in Lysaker. According to its own appraisal, NOC is world leader in the clearance of power supply contracts and is looking to achieve the same position in energy derivatives and carbon emission contracts.
The regulated exchange NP remains a separate entity, which holds the exchange licence in the Nordic area and operates the Nordic derivatives market.
One of the aims of NOC is to develop derivatives trading in Germany and the Netherlands, where it will have to compete with the existing exchanges EEX and APX. Reigstad believes NOC has a chance because it can accommodate energy companies active in the whole area. In Germany, NOC has already been successful in bringing on board Swedish utility Vattenfall as a market maker to set price bids in the trading system. ‘Many trading participants have assets in the Nordic region and in the German or Dutch region as well, for example Eon and Vattenfall. There is a high degree of correlation between the three markets, so risks in one market can be offset in another area.’
Another, even more ambitious project pursued by NOC, in collaboration with NPS, takes place in the UK. NOC and NPS have been chosen by the Futures and Options Association in the UK to establish a spot and derivatives power market with a full range of clearing services. ‘We have promised to have the UK market ready by the end of the second quarter this year’, says NPS chief executive Erik Saether.
In eastern Europe, Nord Pool Consulting, a subsidiary of NOC, has entered into a partnership with Romanian power exchange Opcom in Bucharest. The aim is to build Opcom into a regional power exchange in eastern Europe, based on the NP model.
But NP and Nasdaq OMX do not limit their ambitions to Europe. They are aiming for global expansion. Reigstad anticipates that participants trading on exchanges operated by Nasdaq OMX will be attracted into trading in power products with NP. ‘This will give them the necessary expertise to start trading products on other continents, giving Nasdaq OMX a reason to start commodity markets in the US or elsewhere in the world.’
Reigstad identifies the carbon market as a particularly interesting international opportunity. Here, he expects to see major changes over the next two to three years, especially in the US, but in Asia too, there are many initiatives aimed at developing emissions trading. ‘Nasdaq’s global presence provides a solid foundation for developing these operations together with NP and NOC’, says NP chief executive Erik Thrane.
Competition and cooperation
The largest European competitor to the Nordic power exchange alliance (NP, NPS and NOC) is the partnership between the energy exchanges EEX in Leipzig and Powernext in Paris. These two exchanges have brought together their physical power trading operations under the joint spot market company Epex Spot and their power futures business in the company EEX Power Derivatives. Clearing for the two exchanges (financial and physical settlement of transactions and their collateralisation) will be handled by the Leipzig-based European Commodity Clearing AG (ECC), a subsidiary of EEX.
While the competition between NP, NPS and NOC on the one side and EEX-Powernext on the other, is heating up, the two competing sides are working closely together to establish a “market coupling” system between Germany and Denmark, which will make the limited interconnection capacity between the two countries available to be traded on the power exchanges. EEX and NPS, in collaboration with the energy providers Eon, Energinet and Vattenfall, started up the coupling system in September last year. However, the project had to be stopped after a few days due to ‘unexpected deviations in flow and price calculations’. The partners are now working to improve the system and to bring it back online again. ‘There is a lot of prestige invested in this project,’ says NPS chief executive Erik Saether. ‘So it will be successful in the end.’