Where do we stand, what is the future?
Trading energy at precise quarter-hour intervals on the intraday market has been possible since as far back as late 2011. After little under seven years, IT systems and business processes are so mature that trading can be fully automated, and there are almost no limits for participants developing their own algorithms.
The advantages and implications of the introduction of the intraday market have quickly become evident. For example, reaction patterns arising from changes in renewable energy feed-in are becoming clear, and can be anticipated in the day-ahead trade and used for strategic positioning; naturally, this involves compliance with the provisions of the balancing group contract. Furthermore, the possibility to balance out the fluctuations in the volatile solar and wind energy during the day and thus to reduce deviations in supply has resulted in sharply declining volumes of control energy and thus much reduced balancing power costs.
On the other hand, this can be seen from the perspective of companies who have profited from suppyling control energy. These companies must look around for new lines of business, because the outlook is clear: due to the reduction in time to the gate closure (i.e. the time until the next 15-minute unit can be traded), and the increase in market participants, the minute reserve market in particular will lose in importance. However, losing this business will not be a huge problem for most companies, since the advantages of using the intraday market and the associated algorithmic trading systems outweigh the disadvantages in most cases, as the following list of example applications illustrates:
Of course, different asset classes and strategies can be combined to allow for even more efficiency in market operations. The rule is deemed to be: the more asset classes, the more flexibility and the more profit potential. For example, pump storage facilities can be used to cancel out the ramp-up/ramp-down time of a coal-fired power plant and thus to avoid the excess or deficit in individual 15-minute intervals.
To enable this in the most automated fashion possible, IT system providers in the energy sector are working at full speed to enhance their short-term trading systems. Because they too recognised the trend towards algorithmic trading many years ago and are working hard to offer as many out-of-the-box functionalities and trading strategies as possible. Although the pioneers of intraday trading – mostly large energy trading companies – decided some years ago to develop the software in-house, as functionalities have increased and integration into the system landscape has become easier, it is often advisable to deploy a tried and tested solution from the market. This means that interface updates to financial centres no longer have to be implemented individually and the companies can concentrate more on their core competencies, i.e. developing further trading strategies. Even if the IT systems differ in their ranges of individual functionalities, they have something in common: as well as the ready-made strategies, they allow users to develop and test their own ideas using different program languages, for example Java, Python or R.
To anticipate how energy trading will develop in the coming years, it is worth casting a glance to the financial sector. Trading algorithms, technical chart analysis and high-frequency trading have been bread and butter for the industry for many years. Even if the energy sector must cope with the additional components of physical energy supply and thus higher complexity, there is considerable overlapping.
On the one hand, increasing popularity can be observed for tools for technical chart analysis. These tools allow price developments to be mapped with graphs and to be enhanced and tested with ready-made or self-programmed indicators and trading strategies. For example, with just a few mouse clicks, simple evaluations can be made or complete trading strategies tested, whether it be for speculative trading or as a further decision-making basis for optimised buying and selling.
Furthermore, the development of digitalisation and the related technologies represent exciting perspectives for intraday trading. Some software providers are already collaborating with energy traders to research how artificial intelligence and machine learning algorithms can be linked or integrated with the trading systems, and this will potentially bring about an entirely new type of algorithm. As well as this, increasing computing power and cheaper 'super computers' provide the opportunity to run optimisations in the intraday market in real time. Due to the excessive amount of time taken to calculate individual optimisations, this is currently not possible, as the information in the fast-moving intraday market is usually obsolete after a few seconds and trading is thus no longer profitable.
It has also been seen that other commodities, e.g. gas, will be able to be traded in the continuous intraday market with short-term trading systems and that the trading volume and the number of orders will rise further. Despite high-frequency trading still being held back by penalties for exceeding the very conservative 'order to trade ratio' (the ratio of orders to completed trades), it can be seen here too that improved IT and market infrastructure will lead to significant growth and thus that a new type of high-frequency algorithm will arise.
Even if trading volume, IT systems and business processes have not yet reached the level of maturity of the financial industry, the energy sector is catching up fast. This is demonstrated not just by the continuously increasing number of market participants, but also by the continuous enhancement of IT systems and trading infrastructure. With the Cross-Border Intraday (XBID) Project, for example, a platform is being created to allow electricity to be traded intraday across borders between more than 15 European countries. Projects such as this and the outlook described above prove that the energy market can continue to expect exciting developments and that there are many opportunities for companies in the energy sector to profit from such developments.
Source: KPMG Corporate Treasury News, Edition 80, May 2018
Author: Robert Morys, Manager, Finance Advisory, firstname.lastname@example.org
© 2019 KPMG AG Wirtschaftsprüfungsgesellschaft, ein Mitglied des KPMG-Netzwerks unabhängiger Mitgliedsfirmen, die KPMG International Cooperative (“KPMG International”), einer juristischen Person schweizerischen Rechts, angeschlossen sind. Alle Rechte vorbehalten.