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L                             Confidential
    Spring                                      uthin

Page 2
                                                Volume VII, Issue I

Obama Vs. Commodity Speculators

Volume VII, Issue I                                                                  Page 3

Dissecting The 2008 Energy P...
                                                                       uthin Associates, Inc. is an energy management co...
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La Confidential Spring 2009


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LA Confidential is Luthin Associates’ newsletter that offers insightful, informative articles on a broad range of energy issues.

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La Confidential Spring 2009

  1. 1. L Confidential Spring uthin A 2009 ssociates Volume VII, Issue I “You’ve gotta be cool on Wall Street. When your index is low Dow Jones ain’t got time for the bums” Lyrics from “Wall Street Shuffle” by 10CC Source: 10.06.08 Dissecting The 2008 Energy Price Bubble Inside This Issue A Instead, the problem appears to be [their] dollars across the 25 key Dissecting the 2008 s the smoke cleared more domestic than foreign, more commodities futures according to 1 around last summer’s Energy Price Bubble predictable than mysterious. Just as the popular [commodity] indices crash of energy com- the forces of supply and demand – the Standard & Poors - Gold- modity prices, many were left were only partially responsible for man Sachs Commodity Index and Obama Vs. Commodity asking “What just happened?” 2 the housing value bubble, the roller the Dow Jones – AIG Commod- Speculators Between mid-2007 and mid-2008, coaster of commodity pricing was ity Index” as though they were oil and gas prices had doubled, only minimally connected to dwin- physical assets. “While the com- despite no significant change in dling oil supplies or growing third modities markets have always had When or How Does either supply or demand during some speculators, never before Using Indexed Pricing 2 world demand. the same period. While some had major investment institutions Make Sense could quibble over how interna- An excellent synopsis of what has seriously considered the com- tional forces may impact oil pric- become the common wisdom on modities futures markets as viable ing, no such problems existed The Case of the Solar this matter was presented by CBS’s for larger scale investment pro- 3 with natural gas, which is essen- Laptop Case “60 Minutes” program on Jan. 11, grams,” Masters testified in May tially a domestic product unaf- 2009. A transcript may be found 2008. [Find his full testimony at fected by wars or problems over- at Web Resources & seas. Yet prices of both energy 4 stories/2009/01/08/60minutes/ _files/052008Masters.pdf] CPA Schedule commodities rose and fell in near main4707770_page1.shtml. Its bot- lockstep – with gas crashing a bit tom line is clear: when massive piles As evidence of the significant earlier than oil, but to the same Catherine Luthin of investment money shifted out of change in the energy commodities 4 degree, in a span of less than 3 On a Personal Note the mortgage markets and into market, both Masters and others months. As the heating season commodity markets, forward prices have cited the huge increase in progressed, and demand rose, (both for energy and other com- trading in just the last few years. NYSERDA & LUTHIN prices continued to tank, much modities) were bid upward without In essence, the same barrel of oil Partner for the Focus more in parallel with the Dow concern for the economic distor- or decatherm of gas was being Jones than with outdoor tem- on Healthcare Program tions that were being created. Such traded many more times than in perature. shifts began several years ago, but the past. As quoted in the CBS NYSERDA has retained the went wildly out of control starting documentary: services of Luthin Associates As Congress held hearings and debated over how market funda- in 2007. to manage and implement a new In a five year period, Masters said initiative that will assist the mentals of supply and demand While some speculation is common the amount of money institutional healthcare industry to reduce could exhibit such schizophrenic in commodity trading, that market investors, hedge funds, and the energy costs and improve the behavior, it became obvious that was more often moved by commer- big Wall Street banks had placed environment while enhancing the no amount of economic dogma cial traders involved in taking supply, in the commodities markets went treatment of patients. The Focus or free market politics could than by those merely trading the from $13 billion to $300 billion. on Healthcare effort will pro- explain what we were seeing. paper. According to commodities Last year, 27 barrels of crude vide hospital and nursing home Even the fall of Wall Street in mid expert Michael Masters, the so- were being traded every day on operators with a single point of -September could not be respon- called “non-commercial trad- the New York Mercantile Ex- entry to access NYSERDA’s pro- sible: the nosedive of natural gas ers” (the nice name for speculators) change for every one barrel of oil grams and help them improve started in mid-July, months before began several years ago to bifurcate that was actually being consumed their organizations’ energy per- both the collapse of Lehman into two groups: the usual specula- in the United States. formance. For more information Brothers and the ballyhoo over tors, and a new group he calls Call Toll Free (866) 774-8818 or the first bailout. “index speculators” that “allocate (Continued on page 3) email Want to Subscribe? Email Comments? Email
  2. 2. Page 2 Volume VII, Issue I Obama Vs. Commodity Speculators A midst the many economic challenges outs of trading commodities, but he was also past several years.” facing the Obama administration is instrumental in exempting credit default swaps If confirmed by the Senate (probably in the regulation of financial instruments (one of the mechanisms responsible for the March), Gensler said he would “take a fresh used in energy trading, such as over-the- crash on Wall Street) from regulation while look at the role of speculators in commodity counter (OTC) transactions occurring outside serving Clinton. Gensler’s also had a hand in futures markets.” He would also consider of regulated exchanges (e.g., NYMEX). While passing the Commodity Futures Modernization raising position limits on trades by non- much was said during the presidential cam- Act of 2000; the law which created the “Enron commercial hedgers (i.e., those not taking paign on the ills of the financial markets, one loophole” that allowed many trades to escape delivery of a commodity) which some feel of Obama’s campaign promises boils down to regulatory oversight. added to last year’s roller coaster energy 3 words: “end commodity speculation.” But Obama said of Gensler: “As the new chairman pricing. To do so, he would seek “regular one person’s “speculation” is another’s “risk of a commission charged with regulating some reviews and increased reporting by exemption management.” What do the tea leaves suggest of the unsound practices and excessive leverage holders.” Gensler also supported more stan- Obama will do on this issue? that helped cause this crisis, I know he will re- dardized commodity products moving Gensler as Indicator store sound judgment and strict oversight to through centralized clearinghouses, as well as our markets. Along with…others, Gary will also establishing a framework for derivatives deal- So far (i.e., late February 2009), his main ac- serve as a key member of the team that will ers (which many feel also bear some responsi- tion was the nomination of Gary Gensler as reform our outdated financial regulations.” bility for market volatility and lack of transpar- the new chief of the Commodity Futures ency). Congress, on its own, has been Trading Commission (CFTC). [BTW: don’t Hints During His Hearings considering legislation to the same ends, but confuse Gensler with Tim Geithner, Obama’s During his nomination hearing, Gensler indi- CFTC has – in its existing enabling legislation new Treasury Secretary.] cated that he felt speculative trading may affect – the ability to make many changes without Previously both an Under Secretary and Assis- the price of futures and their underlying physi- additional Congressional approval. tant Secretary of Treasury for Domestic Fi- cal commodities. He promised to increase regu- The extra cost for such regulation (which may nance under Clinton, Gensler brings both latory oversight as a way to curb excess specu- involve hiring several hundred new CFTC expertise and baggage. A former partner in lation. Gensler added “I think we have seen this Goldman Sachs, Gensler knows the ins and demonstrated in commodity markets during the (Continued on page 4) When or How Does Using Indexed Pricing Make Sense D on’t be confused by an Indexed Price. have budgeted for such swings via a “utility war Such contracts may, however, contain unac- Buying energy at a fixed price may be chest” account large enough to avoid begging at ceptable “take or pay” provisions that require the simplest way to access competi- the CFO’s door every time the market went usage consistency to avoid potentially painful tive power markets, and it avoids any sudden nuts. If that option (or some other risk toler- penalties. price spikes, but it is not always the lowest ance) does not exist, indexing may not be for Mitigating by Blocking cost option. At the other end of the purchas- you. For those with interval meters (or willing to ing spectrum is acceptance of whatever price If, on the other hand, the economy is tanking, install them), several options for index pricing is available from the wholesale market, plus a excess generation and supply is sitting idle, and become available. One may base 100% of his fixed adder (i.e., an index). This is called in- wholesale pricing is low and reasonably stable power price on the wholesale market, or may dexed pricing. Utility-based real-time pricing (like right now), riding the price curves may not choose a “block and index” option that fixes (RTP) is also an index process, based on be a bad idea, at least until demand springs back. the price on part of his hourly or daily con- hourly ISO zonal pricing, plus a fixed line loss As discussed below, technical options may also sumption (i.e., a block) while leaving the re- percent, and appropriate demand or capacity exist to mitigate the pinch of short market shifts. maining usage priced on an index. Optimizing charges. that block size should be done with the help Second, Look At Your Metering Taking that increased price risk over a long of a consultant versed in hourly load profiling Any customer with a ‘smart’ (i.e., interval) meter period (e.g., several years) may yield the low- and interval data handling. has the ability to buy power on an hourly basis, est average price because there are no other if his marketer can access his hourly consump- The height of that on-peak block (i.e., a de- built-in costs for hedging or other risk man- tion data. Many customers with peak demands fined hourly consumption during the on-peak agement. So who should consider that option, exceeding 1 MW have utility meters with such period) may be impacted by a customer’s and how may it be done? capability. ability to control his hourly load. If, for exam- First, Look At The Market ple, the highest peak load occurs only an hour But even those lacking such technology may be Has pricing been spiking and/or very volatile? If or two each day above the median daily on- able to purchase on a monthly index, based on so, the risk of blowing one’s budget may ex- peak load, it may be possible to mitigate such their monthly consumption and a defined pricing ceed the 10% - 15% annual savings that may be “bumps” in a load profile using demand re- method such as the Platts zonal monthly index. possible. In past years, some found that one sponse capabilities. Slowing variable speed air Such pricing is generally intended for wholesale very hot week cost as much as an entire nor- handlers a bit, allowing chilled water tem- purchasers, but facilities with reasonably predict- mal month, while a long hot summer cost able annual load profiles may be accepted by almost as much as the rest of the year. Some (Continued on page 3) some power marketers, within defined limits. Want to Subscribe? Email Comments? Email
  3. 3. Volume VII, Issue I Page 3 Dissecting The 2008 Energy Price Bubble (continued) lated exchanges like the NYMEX. Such “over empt commodity: ‘agriculture’ and ‘energy.’ (Continued from page 1) the counter” transactions for some commodi- In the months during last year’s Presidential ties (including corn, the price of which also To put some of this into perspective, positions primary, Congress tried several times to became unhinged from market reality last year) held by index speculators in early 2008 with close on legislation to address such issues, were exempted from federal review in the respect to crude oil amounted to 60% more but failed to do so. A handful of bills are now Commodity Futures Trading Act of 2000 that than all the oil held in the entire US Strategic in the hopper, with hopes for action in the institutionalized the Enron Loophole creating Petroleum Reserve. There was, in essence, coming year. But the financial damage has that exemption. already been done. According to Mark Coo- more ‘paper oil’ than real oil. In the late ‘90s, Enron created a private energy per, director of research at the Consumer But how could things get so out of control of trading floor outside the NYMEX and used it Federation of America, the speculative bub- the federal regulatory apparatus constructed to maximize energy prices, contributing to the ble cost the economy more than half a tril- since the Depression to avoid such financial 1998 California power debacle, and lobbied lion dollars in the two years running up to hard to maintain its exempt position. In his shocks? last summer’s crash. Congressional testimony, Michael Greenberger, One of the main points made during hearings professor at the Univ. of Maryland School of was how a legislative change earlier this decade Law said “virtually all parties agree that the made it nearly impossible for regulators to over- Enron Loophole must be repealed” by deleting Did You Know? see (or even track) trades made outside of regu- two words from the act’s definition of an ex- quot;30 to 40 percent of U.S. households don't have thermostats.quot; ref. Adrian When or How Does Using Indexed Pricing Make Sense (continued ) Tuck, CEO of Tendril Networks Inc. ( quoted in Jan/ Feb 2009 EnergyBiz at a recent Smart (Continued from page 2) Indexing May Be The Only Choice Grid conference. To limit their own hedging costs and risks in peratures to rise slightly, and/or reducing the these economically troubled times, some mar- At first this sounded wacky, until I number of operating elevators may trim enough keters are only offering indexed pricing. In realized that quot;householdsquot; include all load to limit the impact of the highest hourly better times, nearly all major marketers offered the large apartment houses heated by pricing. Some portion of the load may still be an option to allow one’s pricing to float on an steam or circulating hot water. Those impacted briefly by a high price, while the price index and then be fixed at an opportune time. built before ~1970 are typically con- of the remaining load is fixed by the block. Be- That option may return as markets (and mar- cause off-peak prices are nearly always low and trolled through Heat-Timers that cycle keters) stabilize. Smart customers should stay relatively stable, off-peak loads are typically not the boiler in response to outdoor air in touch with their suppliers and consultants to blocked. temperature. take advantage of such changing conditions The Case of the Solar Laptop Case S he was tall, real tall, and carried herself But, oh my, what a bag! The Voltaic Generator like a walking slinky. I knew she was trou- (VG) is one of several carrying cases with built- A third entry, called simply the Solar Com- in solar photovoltaic (PV) cells, plus enough puter Case, also allows charging of its on- ble from the minute I laid eyes on her. battery power storage to charge not only lap- board battery from a 120-volt outlet, offer- She used a laptop, an old one, and was always tops, but most other handheld electronics, as ing even more juice for the power hungry. looking to charge it at my place. Drove me nuts, well. At $499, it costs almost as much as a new This unit, however, is presently available but it kept us close. Then she just stopped laptop. See it at: only from China, and the English at its web site ( showing up - no word, no reason. Product_ID=866&Nav_ID=7616# solartouch/product2.html) is a bit thin. No pricing was available. I rode up and down the coast highway, looking for her, for days. And then there, out on the For those looking for a hard-cased unit to beach, I spotted her, her and that thing she was carry and charge their laptops, check out the Various other solar-powered backpacks, Onboard Eclipse Solar Gear Hybrid Notebook messenger bags, and other carrying cases carrying. Case. Unlike the VG, it boasts an “integrated will charge smaller items like cell phones, “I no longer need you,” she texted, her words cooling solution” designed to improve a lap- PDAs, MP3s, and iPods – but lack the umph stabbing me like a knife. “I now charge my laptop top’s energy efficiency, and won an award at to run a laptop. Find them at using my new solar laptop case.” I couldn’t be- the 2008 Consumer Electronics Association and show. It weighs in at $600. More details at lieve it: I’d been replaced by a handbag. solar_gear_hybrid_notebook_case.php. viewPrd.asp?idcategory=25&idproduct=71 Want to Subscribe? Email Comments? Email
  4. 4. L uthin Associates, Inc. is an energy management consulting firm Luthin Associates serving Tri-State and national clientele with a variety of energy Energy Management Consulting procurement services since its founding in 1994. Our core busi- ness is fossil fuel contract development; fuel, steam and electric 15 Walling Place negotiation and alternate rate opportunities; energy purchase management Avon By The Sea, New Jersey, 07717 and customer education for deregulated markets; benchmarking and other sustainability services. Our client experience includes strategic energy initiatives for Phone: 732.774.0005 major universities, state and local governments, numerous major healthcare facilities and Fax: 732.774.0049 real estate concerns. In our former positions, and as Luthin Associates, we have 85 Email: years’ collective experience in energy and financial management. Visit Our Website Consumer Power Advocates Meetings 2009 Web Resources NYSERDA Focus on Healthcare April 21 July 21 October 20 default.asp#healthcare May 19 August - No Meeting November 17 June 16 September 15 December 15 NYSERDA Focus on Commercial Real Estate Founded in 2001 by Catherine Luthin, Consumer Power Advocates (CPA) is an alliance of large not- for-profit institutions in the greater New York region. CPA’s mission is to lower energy costs for its NYSERDA Focus on Hospitality members through representation in energy-related regulatory and legislative proceedings. Commercial_Industrial/CommercialKitchens/default.asp NYSERDA Focus on Colleges and Universities Membership is open to hospitals, universities, medical schools, and cultural institutions. For more information please visit our website at or call 732-774-0005. Obama Vs. Commodity Speculators (continued from page 2) (Continued from page 2) under the same position limits applicable to as bank loans, but an eventually greater US exchanges. He would also seek a one-year stability of markets and better price discovery examiners) could come from user fees, but “cooling off period” for regulators that seek to and transparency. As with troubled banks, it is Gensler was silent on that matter. He instead enter the commodity industry. likely that many trading firms will disappear or focused his testimony on seeking uniform consolidate, and some of their traders will be Bottom lines for end users: less wiggle room for commodity contract standards that foster looking for real jobs. traders, probably a shakedown period, ,during better price discovery, and bringing foreign which good commodity deals will be as scarce futures exchanges having terminals in the US On a Personal Note… Catherine Luthin A s I write this column, Bernie Madoff losses? What is the “bandwidth?” This term Do we have the crystal balls? No, but we “Do requires that your actual usage resemble the Know” what we “Don’t Know.” When faced has just offered a guilty plea and is off load profile that was used for pricing. A 10% with levels of uncertainty it is necessary that to jail. Earlier today, at the beauty bandwidth allows little variation for changes in we provide layers of possibilities. If historical salon, Bernie was the topic of conversa- operations while exposing the purchased to energy costs are looked at statistically, one tion. My hairdresser kept repeating over and additional costs if they go outside the band. A can develop a standard distribution curve over again “why did all those smart people 25% bandwidth reduces that risk but may cost with a minimal amount of subjective input. give him all that money”. She knew that if more. Are you comparing apples to apples with This can also be done for equipment opera- investment performance was too good to be the price quote? tion by taking into account declining heat true, if the returns were too steady, that it rates for cogen or the reduced efficiency of a was a problem. All I could say was, “If it While predicting the energy savings of a lighting chiller over time. Hours of operations can sounds too good to be true - IT IS!” retrofit is easy, stating with any certainty that similarly be distributed over several likely the financial savings will equal a certain amount probabilities. With this information in hand, Too frequently I have seen commodity deals assumes that the project developer knows the the Return on Investment can be calculated that have unbelievably low pricing or an in- future cost of energy. While it is possible to get under best, worse and base cases. creased Return on Investment (ROI) for en- an indicative two year price from an ESCO that ergy efficiency projects, presented in slick will make this exercise meaningful, if the payback Clearly, Bernie only presented his version of packages by fast talking sales people. These period goes beyond two years, there is no such are a few points to ponder, when you are the Best Case. thing as a “Simple” return on investment. The presented with one of these offers. complexity ramps up when discussing cogenera- Catherine Luthin tion which requires two crystal balls, one each The Commodity price you are quoted may for electric and gas. These projects are further not include all of the requirements of the Spring 2009 complicated by the long term of the payback contract. For instance are capacity and periods. ancillary costs included? How about line Page 4 Want to Subscribe? Email