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We live in interesting times, as the Chinese proverb supposedly goes. For anyone who has to make major investment decisions about power generation in Europe, we also happen to live in rather hair-raising times too.
What possible use are ten year forward curves when, for example, Germany decides overnight to abandon nuclear power in response to a world event? How can you make sensible capital investment decisions with at least a partial collapse of the Euro in 2012 still a distinct possibility? And how do you factor into your risk management the events of 2008/2009 when an expectation of power demand growth nudging 2 per cent across Europe suddenly turned into a 5 per cent contraction? Equally unsettling in the future is the final outcome of the Arab Spring or the prospect of a war with Iran.
Notwithstanding the impact that these unpredictable events have on fuel prices and demand going forwards, there is also the unknown factor of the balance between renewable and classical power plant investment. An increasing number of people in the industry have started to speculate on the dangers of a growing dependency on the intermittent renewable energy supply which, of course, is not despatch controllable. Leaving aside the potential problems of providing the necessary back up, what if demand forecasts started to turn round -- which they are bound to do in time -- and suddenly the need for investment in traditional power plants returns with a vengeance?
Of course some investment decisions in European power, such as buying and selling capacity in specific markets or trading can be made on the basis of a relatively short market forward curve. But anything requiring long-term fundamental views, such as merger and acquisition activity, new plant development or building an interconnector, which can take years to get through all the planning processes, is dependent on the best possible insight, constant 'what if' scenario analysis and modelling right up to the final moment when the decision is made.
Consultants are a pretty essential element in this process for any group making a major medium to long-term investment decision in the power market. You give them the brief, they find what appropriate data they have available, they run their own esoteric models and then give you their risk analysis and advice in a handsomely bound report.
But a static report based on insight gained at the time is of very limited value in today's 'interesting times' if the investment decision process is anything longer than the very short term. There are so many rapidly changing factors in today's economic climate that decision makers are left with two options, neither of which is very satisfactory from a risk management perspective.
First, they can call their consultants back in later on in the planning cycle and ask them to rethink their scenarios based on more up-to-date data. Which leads to another project involving consultants that is costly and actually produces much the same outcome: a static report, based on static data and static analysis; it would be just a bit more up to date, at least for the time being. Second, the management team can look at whatever qualitative data they can find and deploy their own gut instincts and market understanding to add value to their decision making process. This would leave, for example, a utility's senior managers to undertake rudimentary analysis themselves to justify a major investment decision based on their gut instinct. This is hardly likely to enthral their shareholders.
In an ideal world, senior managers would have access to quality, current market data of their own on a continuous basis throughout the decision-making cycle. But they would also need to be able to undertake structured scenario analysis with that data themselves whenever they needed to. The great advantage of this is that it enables them to make the best possible use of their collective expertise and knowledge as senior managers. With the best current information and scenario modelling facilities at their fingertips, gut instinct transforms into considered judgement.
Ideally these senior managers need a service that combines a powerful and highly accessible scenario simulation model with comprehensive, top quality data that has been designed and developed by those who have spent many years in the European electricity data and analysis consultancy market.
It's all about improving the quality of investment decisions in the European market by widening the market vision of senior managers. They need a system that equips them in the face of a volatile geo-political environment, an unstable regulatory outlook and major changes afoot in the energy landscape: an integrated market data and scenario modelling toolset that can easily be used by non-technical executives. That enables better decision making by offering a far higher quality of forward looking insight that is accessible to business people as well as analysts, allowing wider vision across the business, better meeting today's risk management standards.
This sort of solution fills the significant gap that currently exists between consultants and their clients. At the same time, it also adds value to the work of consultants themselves in this difficult market. They are the experts and their clients are paying more for their advice and guidance than they are for their leave-behind reports and complex models that, very often, only the consultants themselves can fully understand.
So, now that we have entered an era when the economically unthinkable of just a few years ago seems to happen with almost tiresome regularity and reading the future power market has become immensely difficult, at least the people who have to make the invest decisions have the right tools available to develop the required insights. They can now also use consultants for what they do best, namely to provide timely advice and guidance.
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Consultants? Do you mean consultants like CERA, and their nonsense about an undulating peak for oil. And those ignoramuses who think that German voters are going to allow the preposterous agenda of Angela Merkel ruin their lives - their lives and mine of course, because of the wires running between Germany and Sweden.
If it is knowledge that is needed, this and other forums can supply a lot of what is necessary.
Harry Valentine 6.19.12
The fiscal situation in Europe requires massive reductions in government spending, that is, if European political leaders would be willing to curtail their spending in clearly unproductive areas. The European consumer will also have to use money frugally, meaning less demand for items such as expensive electric cars. Europe's economic woes may drag on over the next several years and impact on electrical demand.
The economic situation would likely discourage new investment in nuclear power, with prospects for private investors to develop Iceland's hydroelectric power and export that power to the UK and to Europe, via undersea power cable. That power may undersell wind power. This scenario could be a blueprint for governments to reduce expenditures by getting out of numerous areas of state economic involvement and allowing the private sector to fill the void.
Planners in Israel may have anticipated that some European governments could curtail expenditures, including in electric power development. Hence the plan to connect Israel, Cyprus and Greece via undersea power cable . . . . such a power cable already connects Greece and Italy. Israel will be in an ideal position to export new nuclear-electric power to Greece and Italy, while private investors may export power to the UK and parts of Western Europe.
Good article Twan but what you described for the electricity business is the same for all industries. How do you decide to build an oil refinery or a chemical plant or a car factory requiring billions of dollars of investment. I see no difference. It is the risk any business takes. Sometimes they get it wrong. Sometimes they get it right. The businesses that stick around get it right more times than they get it wrong. I do agree though that the electricity business suffers from more than its fair share of Government meddling but that is because failure to keep the lights on really does a number on your election prospects as Ms. Merkel will soon find out when there is not enough power to keep the heat waves at bay and the wind fails to blow as it always does on hot calm days.
But demand for power plants is usually driven by electricity forecasts and these have different growth scenarios built in which allow planners a range of possibilities. In Ontario Canada the Independent Electricity System Operator (IESO) is charged with forecasting power demand both on a short and a long term basis. These forecasts are much more sophisticated than the average consultants report and have proven to be quite accurate. The grid has built in capacity buffers that will prevent electricity shortages unless something catastrophic and not predictable occurs. The trick is to keep your available capacity ahead of the required capacity by a comfortable margin both on a daily basis and for 1, 3, 5 and 10 years out. Forecasting is always a very speculative game but there are many techniques the planners use to mitigate the uncertainties in the forecast models. Done properly private and public investment decisions can be based on reliable data and a range of future outcomes that make the investments not so scary after all. Malcolm