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Risk Management – Dynamic hedging. 21st Mar 2013. Outline of presentation. Risk management 1-0-1 The optimal duration of cost planning Procurement objectives Building to a robust risk management process. What can be risk managed?. Commodity is the biggest contributor to your energy spend - PowerPoint PPT Presentation
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Risk Management – Dynamic hedging21st Mar 2013
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●Risk management 1-0-1
●The optimal duration of cost planning
●Procurement objectives
●Building to a robust risk management process
Outline of presentation
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What can be risk managed?
Commodity is the biggest contributor to your energy spend
– but it is far from being the only major component.
The price is determined by the market.
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Risk of cost increase
Not fixed the price (but could have)
Risk of lost opportunity
Price fixed
What is risk?
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Market behaviour
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A risk averse company (?)
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●Risk management 1-0-1
●The optimal duration of cost planning
●Procurement objectives
●Building to a robust risk management process
Outline of presentation
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Year 1 Year 2
Ene
rgy
requ
irem
ent (
kWh)
Year 3
Future years
How long do you want to remain in business?
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Example: Fixed price for 1 year
Supply contract for 1 year.
Price fixed for one year, but no ability to change your strategy.
Price is linked to market for all future years.
Year 1 Year 2
Ene
rgy
requ
irem
ent (
kWh)
Year 3
Future years
No contract, price linked to market
Contracted but price linked to market Contracted and
price fixed
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Example: Fixed price for 2 years
Supply contract for 2 years.
Price fixed for one year, but no ability to change your strategy.
Price is linked to market for future years.
Year 1 Year 2
Ene
rgy
requ
irem
ent (
kWh)
Year 3
Future years
No contract, price linked to market
Contracted but price linked to market Contracted and
price fixed
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●Risk management 1-0-1
●The optimal duration of cost planning
●Procurement objectives
●Building to a robust risk management process
Outline of presentation
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● Identify
● Measure
● Mitigate
Risk management principles
Procurement objectives
Cost certainty Performanceversus the market
A Risk Framework is needed to establish a
balance
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Risk of cost increase
Not fixing (but could have)
Risk of lost opportunity
Price fixing
2 objectives = 2 faces of risk
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●Risk management 1-0-1
●The optimal duration of cost planning
●Procurement objectives
●Building to a robust risk management process
Outline of presentation
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Contract types
Fixed price Flexible price (fixing / unfixing)
Committed to a supplier Fixed duration Agreed offtake volumes
Committed to price at the point of signature
No flexibility to revise volume forecast
Ability to influence price and manage risk
Revise volume forecasts to avoid penalties
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How long do you want to remain in business?
Treat contractual coverage and commitment to price (fixing) separately.
Contract type ≠ Strategy.
No contract, price linked to market
Contracted but price linked to market Contracted and
price fixed
Year 1 Year 2
Ene
rgy
requ
irem
ent (
kWh)
Year 3
Future years
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Contract type: Flexible contract for 3 years – at the start
Supplier appointed for 3 years.
At the time of signing the contract, price is still linked to market.
A flexible contract enables you to fix as much as you want, for as long as you want.
No contract, price linked to market
Contracted but price linked to market Contracted and
price fixed
Year 1 Year 2
Ene
rgy
requ
irem
ent (
kWh)
Year 3
Future years
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A flexible supply contract enables you to align the hedged % of your future requirements with changing market conditions.
Your strategy will determine what your hedged % will be.
Contract type: Flexible contract for 3 years – ongoing
No contract, price linked to market
Contracted but price linked to market Contracted and
price fixed
Year 1 Year 2
Ene
rgy
requ
irem
ent (
kWh)
Year 3
Future years
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Introducing a risk limit
Some risk of lost opportunity(because we didn’t take full risk in the first place)
Controlled risk of cost increaseNot fixing (but could have)
Risk Limit:
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$
timeBaseline
Buy
Sell
Risk Limit
Client’s energy cost
Dynamic risk mgt – trading activity
Market value
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Sep-
04
Oct
-04
Nov
-04
Dec
-04
Jan-
05
Feb-
05
Mar
-05
Apr-
05
May
-05
Jun-
05
Jul-0
5
Aug-
05
Sep-
05
Oct
-05
Nov
-05
Dec
-05
Jan-
06
Feb-
06
Mar
-06
Apr-
06
May
-06
Jun-
06
Jul-0
6
Aug-
06
Sep-
06
Oct
-06
Nov
-06
Dec
-06
Jan-
07
Feb-
07
Mar
-07
Apr-
07
May
-07
Jun-
07
Jul-0
7
Aug-
07
Sep-
07
Oct
-07
(2,000,000)
(1,500,000)
(1,000,000)
(500,000)
0
500,000
1,000,000
1,500,000
2,000,000
2,500,000
3,000,000
Sep-
04
Oct
-04
Nov
-04
Dec
-04
Jan-
05
Feb-
05
Mar
-05
Apr-
05
May
-05
Jun-
05
Jul-0
5
Aug-
05
Sep-
05
Oct
-05
Nov
-05
Dec
-05
Jan-
06
Feb-
06
Mar
-06
Apr-
06
May
-06
Jun-
06
Jul-0
6
Aug-
06
Sep-
06
Oct
-06
Nov
-06
Dec
-06
Jan-
07
Feb-
07
Mar
-07
Apr-
07
May
-07
Jun-
07
Jul-0
7
Aug-
07
Sep-
07
Oct
-07
(2,000,000)
(1,500,000)
(1,000,000)
(500,000)
0
500,000
1,000,000
1,500,000
2,000,000
2,500,000
3,000,000
Following our risk management process we turned this 2007
position…….
Fixed Price
Into this.................
Risk Limit
Market Price
Client’s Price
Case example
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1. Identify risk
2. Measure risk
3. Define your objectives
4. Put the necessary tools in place.
5. Put the necessary support in place.
6. Put the necessary governance in
place.
Conclusion: Steps towards a robust risk policy
