BSC insight: Forward Market Prices drive six CAP value reviews this year
We issued a consultation on changing the Credit Assessment Price (CAP) value on 17 May 2021. This is the sixth time in 2021 that the CAP value is going to change. This is the most CAP change events to occur in the first five months of the year since the CAP weekly monitoring process was introduced in 2007. In this BSC Insight article, our data analyst Mehdi Jafari outlines the reasons for this. Our Analysis shows that:
- 2021 has had the highest monthly average reference price since 2009,
- With five consultations issued on increasing the CAP, 2021 is the first year ever to increase the CAP value more than once during the first six months of the year,
- As a driver for these CAP change events as a result of volatile forward prices, wind generation has been significantly lower than 2020,
- This year has also been the coldest year since 2013; raising the demand levels and driving forward prices.
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What is Credit Assessment Price (CAP), and why do we use it?
The Credit Assessment Price (CAP) is a parameter defined in Section M1.4 of the BSC as ’the price which it would be appropriate to use to determine the equivalent financial amount of Imbalance Parties’ Energy Indebtedness’. Under the BSC arrangements, payments to and from Trading Parties in respect of Trading Charges arising on any particular Settlement Day are made, on average, 29 calendar days later. Each BSC Party is required to lodge credit with Elexon to ensure that there are sufficient funds available to cover that Party’s Trading Charges, should the Party become unable to pay.
How is the CAP reviewed?
On the first working day of each week, the current CAP value is compared to a value known as the reference price. The reference price is derived from forward market prices over a reference period. Since April 2016, the reference period used to calculate the CAP is two months in advance of the date in question. Prior to 2016, the CAP was calculated using the forward market prices of the next quarter. If the difference between CAP value and reference price exceeds the trigger value, which is 10% of the CAP value rounded to the nearest £/MWh, a CAP review process begins and we issue an industry consultation.
The CAP and reference price data
The graph below shows the reference price and CAP data since 2007. The line chart depicts data since 2016 and the two card boxes to its right return the average value for period 2007-2020 and 2021 separately. You can select from the drop down list to see either the CAP or the reference price data in line chart and card boxes. The bar chart at the bottom shows the number of times the CAP value changed each year. The month slicer at the top help filter data in both visuals to desired months. Hold Ctrl button to select multiple options.
Increases in CAP breaches in 2021
We have reviewed and changed the CAP value five times so far in 2021, which is more than we have done in any other year over the same period. Since 2007, 2021 is the first year to have a CAP change notified at least once a month. Even if there are no more CAP changes during the remaining seven months, with six CAP value changes having occurred so far, the year 2021 already has the second highest number of CAP changes ever. Eight CAP changes occurred in 2016, so if trends continue 2021 could break this record.
Since the CAP weekly monitoring process was introduced in 2007 replacing the former fixed six-monthly review of CAP, the CAP value has changed 53 times. Of these CAP changes, 32 occurred after 2016 where the reference period changed to the next two months rather than next quarter. Except for in March, all CAP changes in 2021 have been increasing. It makes 2021 the first year to increase the CAP more than once over the first six month of the year.
CAP and reference price highs
The reference price average each month in 2021 has been the highest since 2009. There has been an average of £63/MWh versus £46/MWh in preceding years. The CAP value averages at £59/MWh in 2021 (excluding the last notified value on 26 May 2021) higher than any other year over the same period.
CAP and reference price highs
The minimum reference price was £26.21/MWh, which occurred on 29 May 2020 when forward market prices fell as a result of first UK COVID-19 lockdown. It had rocketed to £116.07 in September 2008 setting the CAP in November 2008 at £108/MWh, the highest CAP value to date.
What are the main drivers of the recent CAP changes?
The CAP value is set using the reference price on an implementation date which is the average of forward market prices for the next two months. It has been calculated like this since 2016.Therefore, there are a number of international and domestic factors that can collectively trigger a CAP breach event. Using UK data available from BMRS, I discussed availability of different fuel type generation, demand level and weather conditions.
Generation by fuel type
The availability of weather dependent generation, such as wind, as well as low cost generations like nuclear can impact the energy price.
The graph below shows the electricity generation by fuel type since 2016. You can use filters provided to make the comparison for desired months and/or years. The data covers up to 21 May 2021.
As the graph shows, even though still higher than five-year average, 2021 has experienced lower wind and nuclear generation levels than 2020. In comparison to 2020, wind and nuclear generation dropped respectively by 17.93% and 10.32% over the first four months in 2021. Import volume from interconnectors have also dropped by around 10% in April 2021 compared to April 2020. These falls have been compensated by increase in generation from Combined-Cycle Gas Turbines (CCGT).
Weather conditions and demand levels
Cold weather can lead to demand rise which in turn drives energy prices. The graph below shows the average of temperature and Initial Demand Out-turn (INDO) since 2014. INDO is essentially demand on Transmission System excluding pumped storage and interconnectors demand. Choose from the slicer at the right hand side to see either INDO or temperature data.
As the data shows, 2021 has been the coldest year on average in January, April and May since 2013 and the coldest in February since 2019. The graph also shows that 2021 is the first year since 2018 to experience no demand fall in February and March compared to the year before. In addition, the demand decline in percentage from April to May has always been higher than 3% except in 2021 which has seen a new record with only 2.4% demand reduction in May from April causing higher demand volume in May 2021 since 2018. This all along with lower availability of wind, nuclear, and interconnectors have pushed the forward market prices up resulting in consecutive CAP value increases.
Overall, there are a number of factors that drive forward market prices. In this insight article we discussed some of the domestic factors that could, along with other drivers, lead to a CAP breach event. For example as the first graph shows, Combined-Cycle Gas Turbines CCGT generation has increased 31% over January to April 2021 compared to 2020. Considering that gas prices are still a major player in energy markets, this increase in CCGT generation could also be a decisive factor in forward market price that when rise trigger a CAP breach.