March 2017 Edition: What’s the best energy-purchasing strategy for you? Did you know your energy usage profile tells a unique story? Before deciding what energy-purchasing strategy is best for you, it’s important to understand when your organization uses energy. In AEP Energy’s March issue, our experts provide insights to consider when planning your energy-purchasing strategy.
What’s the best energy-purchasing strategy for you?
Your business’ historical energy profile tells a unique story about how your organization uses energy. Uncovering the layers of your historical electricity consumption reveals insight into what energy-purchasing strategy may be best suited for your business, and more importantly, what purchasing strategy offers the best financial advantage to your organization. When talking with an energy supplier, it’s prudent to have a good foundation of what these different
purchasing options are and how they can be advantageous or risky to your business.
Spot Energy Purchasing
Spot energy purchasing is also known as index pricing. Electricity prices are set hourly through centrally administered markets such as PJM’s locational marginal pricing (LMP). Spot markets are the actualized market clearing prices when supply and demand perfectly offset each other at a specific physical location. In other words, the spot price reflects a generator’s marginal unit price that was offered into the market to serve the current electric demand at that moment.
Spot energy purchasing is also known as “Time of Use” as prices typically vary based on the demand and supply of energy during specific hours of the day. For example, over time, a business may find that it is more cost effective to purchase spot market energy because it doesn’t contain any potential premiums for the unknown value of energy in the future. The industry separates electric usage during the weekdays into two major periods: On-Peak and OffPeak. On-Peak hours are those when energy demand is greatest, Monday through Friday, from 7am until 11pm EST, excluding holidays. If that same business decides to buy spot market energy and also has shift operations, they may find purchasing their energy consumption during Off- Peak, specifically; (as opposed to On-Peak) is more cost effective.
While spot market pricing can sometimes be cheaper over time, there are risks to spot market purchasing that should also be considered. A business would be subject to what the market bears as supply and demand clear. At times of constraint on the grid and weather extremes, this can be volatile and potentially more costly. Other times with ample supply and normal market and weather conditions, prices can be more subdued and attractive. Another important consideration is that the value of electricity several years out can change in value over time. Relying on just spot market energy for supply can result in markets increasing and decreasing in the future and your business enduring those impacts as well.
Forward Energy Purchasing
Forward energy purchasing also known as firm pricing, allows your business to set an energy price for long-term planning and avoid fluctuating market changes over time and in the spot market. When obtaining a firm price over the contract term (typically one to five years depending on specifics), forward markets typically embed risk and carry cost premiums. Prices will vary with each contract as prices are a market-based commodity. Forward energy purchasing or firm price plans are stable, meaning you will know your rate month to month.
Customers may purchase blocks of power rather than their entire load. Blocks are sold as a fixed megawatt (MW) or kilowatt (kW); or by a percentage of their load for a firm price over a specific duration. Commercial and industrial users may purchase additional blocks during their contract term when market conditions and prices meet their budget and usage needs.
Over the long term, volatility in energy-based costs cannot be completely avoided, even with forward energy market purchasing for a few years out, however it can be greatly reduced over the available period. At times, a blended purchasing strategy provides the best balance of long term cost control and stability.
At AEP Energy, our trusted energy experts build smart and successful energy strategies for businesses every day. We start by understanding your business’ operations and how you use energy. Our key insights about your energy use allow us to recommend what energy-purchasing strategy helps you maximize savings. We believe in partnering with our customers and understand that when you are successful, we are successful.
Any references made to prompt month natural gas will normally be associated with a range starting the first day of the month through the final settlement of the respective prompt month natural gas contract. Other references to forward natural gas prices and all power prices will be based on a range starting the first day of the month through the final day of the month.