Customer Risk from Real-Time Retail Electricity Pricing: Bill Volatility and Hedgability

Abstract

One of the most critical concerns that customers have voiced in the debate over real-time retail electricity pricing is that they would be exposed to risk from fluctuations in their electricity cost. The concern seems to be that a customer could find itself consuming a large quantity of power on the day that prices skyrocket, resulting in a high monthly bill. I analyze the magnitude of this risk, using demand data from 1142 large industrial customers, and then ask how much of this risk can be eliminated through various straightforward financial instruments. I find that very simple hedging strategies—forward purchase contracts that are already used with many RTP programs—can eliminate more than 80% of the bill volatility that would otherwise occur. I then show that a slightly more sophisticated application of these forward power purchases can significantly enhance their effect on reducing bill volatility.