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ERCOT Scarcity Pricing Adder Becoming Scarce or Getting Started?

Energy

By Corey Boettiger  |  October 1, 2020

One of the signature features of the Electric Reliability Council of Texas (ERCOT) power market is that it is an energy-only market. Unlike markets like PJM where plants can be rewarded for their capacity whether used or not, ERCOT plants almost solely derive their revenue from the electrons they produce. To incentivize new plants to be built in this market structure, ERCOT employs the Operating Reserve Demand Curve (ORDC). Though a complicated component with several different factors, the ORDC ultimately creates an adder to pricing. This scarcity pricing kicks in once demand in the system begins to eat away at reserve capacity. This begs the question: Will capacity additions outpace load or will retirements help to offset new capacity coming online, creating additional volatility? Here, we explore this topic. 

ERCOT’s Proposed Capacity in 2021  

Subscribers to the BTU Power View know that there is over 50 gigawatts (GW) of proposed capacity that is scheduled to come online in 2021 in ERCOT. Of course, not all that capacity will actually come online; in fact, BTU is tracking only about 10 GW of projects that are under construction or will begin construction shortly. Offsetting the potential capacity growth shown below is more than 12 GW of capacity set to retire, though less than 1 GW of that is set for retirement before 2024. 

over-50-gw-of-capacity-has-been-proposed-in-2021-for-ercot

At a high level, the BTU grades here represent the risk associated with a project. A grade of 5 represents minimal risk remaining, including that it is currently under construction or slated to begin shortly. On the other end, a grade of 1 represents that the project is still a ways off, and there is the potential for regulatory setbacks, or filings have not been initiated. 

Factors That Contribute to Scarcity Pricing 

Due to high electricity demand because of hot weather, August is typically the month when we see scarcity pricing kick in. The chart below shows how the average price adder for ERCOT in August spiked in 2019 but decreased in 2020. Two main things could attribute to this: increased reserve capacity or a decrease in load. 

the-ordc-price-adder-for-august-has-been-increasing-in-the-last-few-years

The likely culprit, in this case, is a year-over-year drop in load, driven by milder summer temperatures and the impacts of COVID-19. The graphic below shows the average August hourly load over the past few years. Previously, we discussed Permian activity as a major driver in ERCOT load growth; however, here we see that average load fell from peaks seen in 2019 to this year. 

average-load-for-august-2020-has-decreased-the-effects-of-which

This could again be attributed to several different things, though the COVID-19 pandemic is likely a factor. In May, ERCOT had adjusted its peak load forecast down to 75,200 megawatts (MW), a 1,496 MW decrease, citing COVID-19. However, ERCOT is calling for continuing peak load growth over the next few years. 

Conclusion 

With retiring thermal generation contributing more to the reserve margin than wind and solar projects, which make up the vast majority of proposed projects, the timing of these retirements and additions will be crucial in determining whether or not pricing volatility will continue. 

This article was originally published on the BTU Analytics website. 

This blog post is for informational purposes only. The information contained in this blog post is not legal, tax, or investment advice. FactSet does not endorse or recommend any investments and assumes no liability for any consequence relating directly or indirectly to any action or inaction taken based on the information contained in this article. 

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Corey Boettiger

Senior Energy Strategy Analyst

Mr. Corey Boettiger is a Senior Energy Strategy Analyst at FactSet. In this role, he develops datasets and analytics around global energy transition projects. Prior, he was a senior energy analyst at BTU Analytics, which FactSet acquired in 2021. He has previously been involved in several areas of BTU Analytics’ market research, including U.S. power markets, wellhead economics, and NGL production, and has created and maintained several of BTU Analytics’ models. Mr. Boettiger earned a B.S. in Applied Mathematics and Statistics from the Colorado School of Mines.

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The information contained in this article is not investment advice. FactSet does not endorse or recommend any investments and assumes no liability for any consequence relating directly or indirectly to any action or inaction taken based on the information contained in this article.