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Issue
The finance and accounting team of a large electricity generator
needed to ensure their organisation was in compliance with IAS39.
To do so, the company needed to reliably compute the fair market
value of all of its energy derivatives contracts, to nominate
a related item or group of items against each hedging instrument
owned, and to track and report all instances where a hedge is
not fully balanced off by its corresponding items.
The company decided to invest in a mark to market solution that
was flexible enough to encompass multiple real-world factors applying
in the generator's market place, which could reflect the breadth
of its trading activities, and was able to interface with existing
databases of contracts, market forward curves, and relevant historical
information.
Solution
Lacima was identified as being able to tailor a solution to the
generator's specific requirements. Lacima's ability to leverage
a suite of well-proven components to create the solution, and
the acknowledged reliability of the firm's research-based methods
were also important considerations.
Benefits
By following this path, the generator gained a relatively inexpensive,
but high quality mark-to-market solution. This has not only enabled
the company to provide transparent information to shareholders
in compliance with IAS39, but has also enabled the company to
increase the performance of it's hedging operations through improved
clarity on the P&L impact of portfolio adjustments.
Issue
The senior management of a large electricity generator became
aware that current methods of reporting the risk exposures associated
with their energy contract portfolio did not reflect real-world
conditions. As a result, it was realised that the generator did
not understand their risks properly, and that a lack of reliability
was impacting both output scheduling and income.
A decision was made to seek the advice of financial engineers
who had both the relevant experience to understand the generator’s
particular needs and the ability to propose and then implement
tailored solutions. They would develop improved risk measurement
capabilities so the generator could better hedge the risks inherent
in their physical assets, thereby reducing volatility in quarterly
profits.
Solution
After recommending a relevant at-risk approach for the generator’s
portfolio of contracts, Lacima provided board reports on the earnings
exposure of the business and on the value exposure for their traded
portfolio.
A solution was created incorporating a realistic simulation engine.
This gave the generator the specific functionality they needed
– without burdening them with unwanted generic features.
Benefits
The customers’ new solution gave them the ability to calculate
risk distributions at user-defined levels of granularity, to simulate
multiple “assets” such as temperature, load, and price
on a half-hourly basis, and to derive cash flow functions for
all contracts in their portfolio. At a business level, the generator’s
risk profile was improved, and there was an increase in earnings
associated with the contract portfolio.
Issue
The risk management team at an electricity retailer wished to
improve the guidance given to the retailer’s trading team
during supply contract negotiations with energy generators.
To enable more informed contract pricing negotiations with energy
suppliers, the preferred approach was to buy a pricing engine
from a third party. The risk management team had good risk analytics
skills but wanted to minimise complexity and save the time needed
to develop and calibrate their own solution from scratch.
The team looked for a software product which could be parameterised
to reflect complex, real-world time series and simulate mean reversion
jump diffusion processes. This would enable a portfolio of electricity
loads to be modelled and then correlated with proposed generator
prices for contract valuations.
Solution
A decision was made to use Lacima’s Single Factor Simulation Engine, which supports
the modelling of multiple factors and enables complex mean
reversion jump diffusion to be parameterised and calibrated with
relative ease.
Benefits
By following this path, the retailer was better able to understand
the risk associated with proposed contract prices, and was able
to provide more sophisticated and credible argument when justifying
their bids during contract negotiations with electricity generators.
The approach also provided greater clarity in understanding prices
beyond which the retailer should walk away from negotiations.
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Overview
