Managing Natural Gas Price Volatility and Escalation: The Value of - PowerPoint PPT Presentation

Managing Natural Gas Price Volatility and Escalation: The Value of Renewable Energy Ryan H. Wiser Lawrence Berkeley National Laboratory RHWiser@lbl.gov (510-486-5474) http://eetd.lbl.gov/ea/EMS/ NEMS/AEO 2004 Conference Washington, D.C. March 23, 2004 Environmental Energy Technologies Division • Energy Analysis Department

Overview q Renewable energy (RE) provides a hedge against volatile and escalating gas prices: 1) Mitigates Fuel Price Risk: Long-term contracts for RE are typically offered on a fixed-price basis, unlike gas-fired generation contracts 2) Reduces Natural Gas Prices: Increased RE reduces natural gas demand, and consequently puts downward pressure on gas prices q Presentation includes an overview of natural gas price uncertainty, and discusses research on both of these possible benefits Environmental Energy Technologies Division • Energy Analysis Department

Natural Gas Prices Are High and Volatile 10 10 9 9 NYMEX natural gas 8 8 Daily price history of 1st-nearby futures strip on 03/16/04 $/MMBtu (nominal) $/MMBtu (nominal) 7 7 NYMEX natural gas futures contract 6 6 5 5 4 4 3 3 2 2 1 1 0 0 Mar-07 Mar-08 Mar-09 Mar-10 Apr-90 Apr-91 Apr-92 Apr-93 Apr-94 Apr-95 Apr-96 Apr-97 Apr-98 Apr-99 Apr-00 Apr-01 Apr-02 Apr-03 Apr-04 Apr-05 Apr-06 Source: NYMEX Gas fuel costs account for half of the total cost of new natural gas- fired generation, and gas-fired generation often sets the market clearing price in wholesale electricity markets Environmental Energy Technologies Division • Energy Analysis Department

Natural Gas Price Forecasts Show a Broad Range of Possible Outcomes Source: National Petroleum Council, 2003 Environmental Energy Technologies Division • Energy Analysis Department

…But Be Wary of Price Forecasts… Historical AEO Wellhead Gas Price Forecasts vs. Actual Wellhead Price 8 90 86 91 7 Wellhead Price (Nominal $/MCF) 92 04 6 85 89 93 03 5 94 02 95 01 4 00 87 99 98 3 97 2 96 Actual Wellhead Price 1 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 Source: EIA Environmental Energy Technologies Division • Energy Analysis Department

The Value of Fixed-Price RE Contracts q Renewable energy can provide a physical hedge against volatile gas prices • Renewable energy typically offered at fixed prices for lengthy contract durations (>10 yrs) • Gas-fired generation often offered on a long-term indexed or tolling basis, or sold in short-term volatile markets q Customers or policymakers that value price stability may prefer fixed-price over variable-price arrangements q RE is not unique in providing price stability: gas generators can hedge using fixed-price gas futures, forwards, and swaps, though perhaps not for same duration as RE Environmental Energy Technologies Division • Energy Analysis Department

LBNL’s Accounting for Fuel Price Risk… Question: How to compare the levelized cost of fixed- price renewable to variable-price gas-fired generation? Current Practice: to • Cost of renewables is often compared to cost of gas-fired generation based on uncertain fuel price forecasts Best Practice: to • Cost of renewables should be compared to cost of gas- fired generation based on a guaranteed fuel price How do guaranteed forward gas prices compare to uncertain gas price forecasts? Environmental Energy Technologies Division • Energy Analysis Department

Methodology q Compared forward market prices for natural gas to long-term spot price gas forecasts • Forward market data from NYMEX (2002, 2003), Williams/DWR contract (2002), and Enron (2000, 2001), limited to maximum of 10 years • Contemporaneous forecasts from EIA’s AEO reference case (adjusted to delivery point for forwards), and from utility IRP filings q Limited data availability, especially for long-term forwards, constrains robustness of findings Environmental Energy Technologies Division • Energy Analysis Department

Forward Prices Exceed Price Forecasts November 2000 November 2001 4.1 4.7 3.9 4.2 Natural Gas Price ($/MMBtu) Natural Gas Price ($/MMBtu) 3.7 Implied Forward Swap Curve (Enron) 3.7 3.5 EIA Forecast (AEO 2001) 3.3 3.2 3.1 Implied Forward Swap Curve (Enron) 2.7 2.9 EIA Forecast (AEO 2002) 2.7 2.2 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 Source: Enron and EIA Source: Enron and EIA November 2002 4.0 October 2003 5.2 5.0 Natural Gas Price ($/MMBtu) 3.8 Natural Gas Price ($/MMBtu) NYMEX Futures Price (Annual Average) 4.8 EIA Forecast (AEO 2004) 3.6 NYMEX Futures Price (Annual Average) 4.6 EIA Forecast (AEO 2003) 4.4 3.4 4.2 3.2 4.0 3.8 3.0 2004 2005 2006 2007 2008 2009 2003 2004 2005 2006 2007 2008 Source: NYMEX and EIA Source: NYMEX and EIA Environmental Energy Technologies Division • Energy Analysis Department

Levelized Premiums Average $0.7/MMBtu 1.0 0.7 0.9 0.6 Implicit Premium ($/MMBtu) 0.8 Implicit Premium (¢/kWh) 0.5 0.7 0.6 0.4 0.5 0.3 0.4 Enron - AEO 2001 (November 2000) Enron - AEO 2002 (November 2001) 0.3 0.2 NYMEX Futures - AEO 2003 (November 2002) 0.2 Williams Physical Supply - AEO 2003 (November 2002) 0.1 NYMEX Futures - AEO 2004 (October 2003) 0.1 Average 0.0 0.0 2-Year 5-Year 6-Year 7-Year 10-Year Contract Term Implicit premium in cents/kWh based on 7000 BTU/kWh heat rate Environmental Energy Technologies Division • Energy Analysis Department

Gas Price Forecasts in Utility IRPs Have Recently Been Lower than the EIA’s AEO 2003 Forecast 8.0 7.5 Blend of Pacificorp Forward Prices and PIRA March 2002 Forecast 7.0 6.5 $/MMBtu (nominal) 6.0 5.5 5.0 4.5 4.0 3.5 3.0 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 5.0 4.5 $/MMBtu (nominal) 4.0 3.5 AEO 2002 Gas Price Forecast 3.0 Idaho Power/WEFA Natural Gas Price Forecast 2.5 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 Environmental Energy Technologies Division • Energy Analysis Department

Implications Over last 4 years, forward gas prices have exceeded EIA reference case forecasts; gas price forecasts used by utilities have been even lower, with a greater “wedge” between forwards and forecasts Use of gas price forecasts (rather than forwards) over this time period may have “biased” investment decisions towards variable- price gas-fired generation, and away from renewable energy Whether these premiums will continue remains unclear, but does not change the fundamental implication of this work: When possible, use forward prices, not price forecasts, when comparing the levelized costs of gas-fired and RE generation For more information: http://eetd.lbl.gov/ea/EMS/reports/53587.pdf Environmental Energy Technologies Division • Energy Analysis Department

Renewables May Also Put Downward Pressure on Natural Gas Prices Price Original De mand q Theory: Increased use of Sup ply Shifted Demand RE will reduce natural gas demand, placing downward P 0 P pressure on gas prices 1 Quantity Q Q 0 1 q Magnitude of price reduction depends on the shape of the gas supply curve: impact expected to be larger in the short-term than in the long- term due to short-term supply constraints q Price reduction not strictly a gain in net social welfare – it is a gain to gas consumers that comes at the expense of producers; whether such transfers support government intervention is subject to debate Environmental Energy Technologies Division • Energy Analysis Department

Methodology q Recent modeling studies have evaluated impact of increased RE and EE deployment on gas prices (most use NEMS) q Our analysis reviews results of nine of these studies 5 EIA studies of the impact of national RPS proposals • 2 UCS studies of the impact of national RPS proposals • 1 Tellus study of the impact of New England RPS (focus on RI) • 1 ACEEE study of the impact of national RE/EE deployment • q Our Approach – review economic theory of the price suppression effect – review modeling output to test for model consistency over time, across models, and with economic theory – compare results with empirical estimates of supply elasticities – determine whether existing models are treating this effect within reason – focus on national impacts initially – regional impact analysis up next Environmental Energy Technologies Division • Energy Analysis Department

Increased Renewable Energy Penetration Displaces Natural Gas Projected Gas Displacement in 2020 Under RPS Studies 4.5 EIA 98, 10% RPS 4.0 Natural Gas Displacement (Quads) EIA 00, 7.5% RPS 3.5 EIA 01, 10% RPS EIA 01, 20% RPS 3.0 EIA 02, 10% RPS 2.5 EIA 02, 20% RPS 2.0 EIA 03, 10% RPS 1.5 UCS 02, 10% RPS 1.0 Tellus 02, 10% RI RPS 0.5 Tellus 02, 15% RI RPS 0.0 Tellus 02, 20% RI RPS 0 200 400 600 800 1000 Increase in Renewable Energy Generation (Billion kWh) Environmental Energy Technologies Division • Energy Analysis Department