Among the greatest financial risks that a wind project faces is the price of the electricity, which can fluctuate dramatically year-over-year and hour-by-hour. A tool commonly used to manage electricity price risk is a fixed volume energy price swap (also known as a “P99 Hedge” or a “Bank Hedge”). Under this structure, the project commits to selling a fixed amount of energy in each hour – regardless of how much energy the project actually generates in that hour. Many project owners use a financial model that assumes that these hourly mismatches (between the fixed amount of energy sold and the actual amount of energy produced) are relatively inconsequential. Our analysis shows that this is not the case, and in fact, these hourly mismatches may ultimately drive the economics of the project.
The significance of these mismatches comes from the fact that wind energy is now a large and growing slice of the system-wide electricity generation pie. As a result, hourly wind speeds now have an increasingly meaningful impact on electricity prices: during periods of high wind speeds there will be a relative surplus of power on the grid due to elevated wind generation levels, depressing electricity prices through the simple law of supply-and-demand.
Our analysis empirically evaluates this relationship between wind generation and power prices, and demonstrates that the commonly used modeling method (which ignores the hourly relationship between wind generation and power prices) results in dramatic over-estimations of project revenue.
Methods & Results
In order to test the commonly-used modeling technique against reality, we conducted an at-scale empirical analysis. First, we selected and aggregated the sub-hourly generation data of 38 utility-scale wind projects in Texas, for a total of 234 project-years of data. Next, for each of those projects, we calculated i) the expected net revenue according to the above-mentioned valuation technique, and ii) the actual net revenue of the project over the historical period. The results were clear: the negative, causal relationship between wind speeds and power prices resulted in realized net revenue numbers that were, on average, nearly 20% less valuable than developers would have expected had they used the traditional modeling method.
While this specific finding (that traditional valuation techniques overestimate revenue by a meaningful amount) is important, the broader learning from this study is that - due to increased wind penetration levels - hourly wind speeds are materially impacting system-wide electricity prices in ways that we’ve never seen before, and that the industry needs to shift to the hourly (or sub-hourly) simultaneous modeling of power price and wind speed in order to accurately model expected revenues from wind projects.
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