Book contents
15 - Variable-Quantity Swaps
Published online by Cambridge University Press: 05 June 2014
Summary
The balance between supply and demand of energy commodities can change extremely rapidly. An unusually cold day in a region heated by natural gas results in higher consumption, coupled with statistically higher natural gas spot prices. A hot day in a region in which air conditioning is prevalent results in increased demand for power, again with commensurate price response. The aftermath of 9/11 witnessed a meaningful and nearly instantaneous drop in air travel with an associated drop in jet fuel consumption. The list goes on. A refinery outage can result in a discontinuous drop in supply that can have significant regional pricing (not to mention political) consequences. The same is true for power generators, notably nuclear plants, where unanticipated (forced) outages can last for weeks or even months and result in local and in some instances regional price responses.
The purpose of storage and transportation facilities is to mitigate price dislocations resulting from such events. Large withdrawals from natural gas storage occur when the temperature is low in the Northeast, as we saw in Figure 3.31, and pipeline flows to the region increase. Such responses dampen the price spikes that tend to occur at such times. Nonetheless, despite substantial storage and transportation infrastructure, the price series for TETM3 basis shown in Figure 1.6 is clear evidence that such infrastructure has limitations – otherwise we would not see the regular appearance of basis returns in excess of 100 percent.
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- Valuation and Risk Management in Energy Markets , pp. 375 - 402Publisher: Cambridge University PressPrint publication year: 2014