Hedging quantity risks with standard power options in a competitive wholesale electricity market†

  1. Yumi Oum1,
  2. Shmuel Oren1,*,
  3. Shijie Deng2

Article first published online: 28 JUL 2006

DOI: 10.1002/nav.20184

Issue

Naval Research Logistics (NRL)

Naval Research Logistics (NRL)

Special Issue: Special Issue on Applications of Financial Engineering in Operations, Production, Services, Logistics, and Management

Volume 53, Issue 7, pages 697–712, October 2006

Additional Information

How to Cite

Oum, Y., Oren, S. and Deng, S. (2006), Hedging quantity risks with standard power options in a competitive wholesale electricity market. Naval Research Logistics, 53: 697–712. doi: 10.1002/nav.20184

Author Information

  1. 1

    Department of Industrial Engineering and Operations Research, University of California, Berkeley, California 94720-1777

  2. 2

    School of Industrial and Systems Engineering, Georgia Institute of Technology, Atlanta, Georgia 30332-0205

*Department of Industrial Engineering and Operations Research, University of California, Berkeley, California 94720-1777

  1. †

    The work described in this paper was coordinated by the Consortium for Electric Reliability Technology Solutions (CERTS) on behalf of the Department of Energy. The second and third authors were also supported by NSF Grants EEC 0119301 and ECS 0134210 and by the Power Systems Engineering Research Center.

Publication History

  1. Issue published online: 29 AUG 2006
  2. Article first published online: 28 JUL 2006
  3. Manuscript Accepted: 28 FEB 2006
  4. Manuscript Revised: 14 OCT 2005
  5. Manuscript Received: 3 MAR 2005

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Keywords:

  • load-serving entity;
  • quantity risk;
  • volumetric risk;
  • electricity market;
  • option;
  • hedging

Abstract

This paper addresses quantity risk in the electricity market and explores several ways of managing such risk. The paper also addresses the hedging problem of a load-serving entity, which provides electricity service at a regulated price in electricity markets with price and quantity risk. Exploiting the correlation between consumption volume and spot price of electricity, an optimal zero-cost hedging function characterized by payoff as a function of spot price is derived. It is then illustrated how such a hedging strategy can be implemented through a portfolio of forward contracts and call and put options. © 2006 Wiley Periodicals, Inc. Naval Research Logistics 2006

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