Changing the System TMOR Reserve Constraint Penalty Factor

Changing the System TMOR Reserve Constraint Penalty Factor

Aleks MitreskiMarkets CommitteeNovember 10 2011

Presentation Overview

• Problem statement

• Proper pricing of system TMOR during reserve deficiency

• RCPF analysis and recommendation

• Estimated Cost Impact Analysis

• Summary

• Proposed timeline

• Appendix - Tabular representation of estimated cost/compensation

System TMOR RCPF Change

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Problem Statement

• The ISO has observed operational and economic inefficiencies when the system real-time Thirty Minute Operating Reserve (“TMOR”) price reaches its ceiling value (i.e., the RCPF) of $100

1. Improper pricing of the TMOR product during shortage periods

2. Failure to follow incentive is created when resource’s lost opportunity cost is not compensated

3. The ISO must manually (in most cases inefficiently) re-dispatch resources to supply reserves

4. Lack of market transparency and understatement of system TMOR price

• In addition, the External Market Monitor recommended increasing the system TMOR RCPF


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Problem Statement cont. - Economic & Operational Inefficiencies


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PROPER PRICING OF RESERVES DURING RESERVE DEFICIENCY

The current energy and reserve co-optimization algorithm can not properly price the system TMOR product during reserve shortage events when the RCPF is activated


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Energy and Reserve Co-Optimization

• Each hour of each day, the ISO has a requirement to carry TMOR reserves (in addition to Ten minute reserves)

– TMOR requirement is 50% of the second largest contingency

• As system load increases and/or contingency occurs UDS re-dispatches resources to ensure reserves and energy needs are met

• The cost of this re-dispatch is reflected in the real-time System TMOR Price (please refer to October presentation for detail discussion on co-optimization pricing)

• However, the System TMOR price can only increase up to its RCPF price cap of $100


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• When the System TMOR price reaches $100 and we continue to experience TMOR shortage then:– The system TMOR price does not reflect the true cost of

providing the product– Failure to follow incentive arises since resources are not

compensated their full opportunity cost for providing the TMOR – The UDS halts its co-optimization process (reverts to energy

only solution) and no longer attempts to cure the deficiency– Operators attempt to manually re-dispatch the system

• In most cases reserve deficiencies continue until load decreases


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Key principles that must be adhered for efficient operation of the energy and reserve co-optimization:

1. Resources dispatched for reserves must be compensated for their lost opportunity cost for not providing energy.• Otherwise, there are financial incentives to not follow dispatch

2. The UDS should be allowed to perform its co-optimization algorithm• Otherwise, operators are forced to perform manual re-dispatch

actions which are not transparent to the marketplace

3. Price formation must be transparent and efficient• Otherwise, inefficient price determination fails to attract resources

with desirable characteristics to provide reserves


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RCPF ANALYSIS AND RECOMMENDATION

Questions asked during our analysis:How frequent is the system TMOR RCPF activation?

How severe is the problem?

Does it have negative reliability implications?

Can it be fixed by increasing the RCPF?

What would be the best appropriate new RCPF value?


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RCPF Analysis• Since 2008, there have been 252 approved Unit Dispatch

System (UDS) cases where: – There was TMOR shortage and,– The real-time system TMOR price reached the RCPF value of $100

and,– The lost opportunity cost of a resource that provided reserves instead of

energy exceeded $100

• For each UDS case, the ISO calculated the marginal opportunity cost for providing reserves instead of energy (nodal LMP – offer block in which a resource was dispatched), as system was actually run

• The largest observed marginal lost opportunity cost in these UDS cases was $386


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RCPF Analysis


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RCPF Analysis

• According to the previous graph, the new RCPF value should not be lower than $386 if we want UDS to properly co-optimize reserves and energy

• However, the calculation of the opportunity cost in that graph is with existing reserve deficiency in each UDS case

• As we increase the RCPF value, UDS will dispatch additional resources to cure the deficiency, which will increase the LMP to send the correct price signal

• In turn, the opportunity cost for providing reserves will be higher than $386 and should be reflected in the real-time TMOR price


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RCPF Analysis - Recommendation

• ISO is proposing to increase the RCPF value to $500• Our simulation of 231 actual UDS cases with TMOR deficiency

using a RCPF value of $500 cured the reserve deficiency in all but 40 cases

• Increasing the RCPF value to $500 will:1. Allow UDS to co-optimize the system for reserves and energy

2. Reduce the frequency and severity of reserve shortages

3. Properly price the cost for providing the TMOR product

4. Make resources indifferent to providing energy or reserves

5. Decrease the amount of manual actions by operators

6. Enable efficient and transparent pricing of the cost of providing reserves

• There is added cost associated with the ability for the ISO to carry the required reserves in more instances


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ESTIMATED COST IMPACT ANALYSIS

We estimated how the total cost/compensation would change for TMOR RCPF value of $100, $200, $400, $500 and $1,000


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Estimated Cost Impact due to RCPF Increase

• Increasing the RCPF value will allow UDS to dispatch additional resources to cure the reserve deficiencies

• In turn, the system will experience higher real-time reserve prices and higher LMPs

• We re-ran the 231 UDS cases at various RCPF values to observe potential cost impact

• The UDS cases occurred on 75 distinct hours (38 distinct days) in the January 1st 2010 to August 31st 2011 timeframe

• These after the fact re-calculations are approximations using various assumptions and should be considered as estimates for reference purpose only


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• We observe that as RCPF value increases to $200, $400, and $500 the UDS cases with reserve deficiency are cured within reasonable cost increase

• At an RCPF value of $1,000, 197 (85%) UDS cases with reserve deficiency are cured (i.e., curable UDS cases)

through price increase, but cost increased unreasonably

• 34 UDS cases (15%) remain uncured even at an RCPF value of $1,000 indicating reserves are physically unavailable at any price (i.e., incurable UDS cases)


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While large number of UDS cases are cured at an RCPF value of $400, there are three issues that prompt the ISO to recommend increasing the RCPF value to $500 instead:

1. We have observed a strong correlation between high opportunity cost for providing reserves and oil prices.

• Having an RCPF at $500 provides a reliability margin over the $400 value to account for future oil price volatility

2. The cost analysis shows that cost increase between $400 and $500 provides “value” in terms of curing reserve deficiency cases

• At an RCPF value of $500, UDS was able to resolve 97% curable UDS cases with cost increase of roughly $2.4 million, compared to resolving 90% of curable cases at an RCPF value of $400

3. An RCPF of $500 does not mean real-time reserve prices will always reach $500 during reserve deficiency. The $500 serves as an upper boundary to allow UDS to cure reserve deficiencies through price


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At an RCPF of $500 additional 7% of curable UDS cases with reserve deficiency are resolved while cost increased by 6% compared to having an RCPF value of $400

*Excludes NCPC Adjustments


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RCPF Value Resolved Curable Reserve Deficiency

UDS cases

Incremental Cost Increase*

$ 100 0% 0%

$ 200 34% 24%

$ 400 56% 23%

$ 500 7% 6%

$1000 3% 22%

Cost Impact due to RCPF Increase

• The current RCPF value of $100 does not allow for proper pricing of this product in reserve deficiency situations

• Our operators may perform certain manual actions to cure the deficiency, which in turn prohibits market transparency

• By increasing the RCPF value, and consequently having higher LMP, there will be a reduction of NCPC compensation to certain resources, which in turn will decrease out of market payments


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Estimated Decrease in NCPC Compensation


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Estimated incremental changes in cost/compensation as RCPF increases


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Summary• Currently the ISO experiences reserve deficient situations when the

$100 RCPF TMOR is reached because at that time our software cannot optimize and dispatch for energy and reserves

• The recommendation for increasing the RCPF value is reliability based where our system can dispatch resources to meet the existing reserve requirements

• While there will be cost increase, the change of the RCPF will not translate into consistent real-time TMOR prices of $500, but only during isolated “tight reliability conditions” when reserves are rapidly depleting and very valuable

• The increase of the RCPF will enable:– Properly price the product that is provided by the resources

– Create transparent and appropriate market and dispatch incentives

– ISO to carry the reserves that are specified in our operating procedures


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Tentative Timeline

• Stakeholder action – December/January MC

• Stakeholder action – January/February PC

• Regulatory filing – Q1 of 2012

• Implementation – Q2 of 2012


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Appendix 1 – Total cost/compensation at various RCPF values*

*Data between January 1st 2010 and August 31st 2011**Calculated for the 38 distinct days with UDS cases with TMOR reserve deficiency


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Year RCPF Value

Total RT Energy

Compensation

Total RT External

Transactions Compensatio

n

Total RT Reserve

Compensation

Total in NCPC

Payments**

UDS Cases with

reserve deficiency

2010$100

$ 13,201,121 $ 1,382,530 $ 3,526,805 $ 14,466,827 153

2011 $ 10,605,966 $ 1,200 $ 1,902,113 $ 6,702,051 78

2010$200

$ 15,848,979 $ 1,722,007 $ 5,519,471 $ 12,297,049 95

2011 $ 12,145,063 $ 131,687 $ 2,710,005 $ 5,854,772 68

2010 $400

$ 18,484,468 $ 2,021,521 $ 7,258,665 $ 11,335,864 21

2011 $ 14,792,414 $ 166,247 $ 4,098,798 $ 5,308,304 32

2010 $500

$ 19,182,694 $ 2,064,321 $ 7,557,176 $ 11,120,449 13

2011 $ 16,100,246 $ 85,641 $ 4,538,847 $ 5,211,403 27

2010 $1,000

$ 21,089,937 $ 2,078,972 $ 8,240,730 $ 10,547,977 8

2011 $ 22,899,431 $ (420,334) $ 6,419,195 $ 4,955,115 26

Appendix 2 – Incremental cost/compensation at various RCPF values*


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RCPF Value

Increase in RT Energy Compensation

Increase in RT External Transactions Compensation

Increase in RT Reserve Compensation

Decrease in NCPC Compensation**

Total Incremental Cost

$ 100 - - - - -

$ 200 $ 4,186,954 $ 469,963 $ 2,800,558 $ (2,882,279) $ 4,575,197

$ 400 $ 9,469,795 $ 804,038 $ 5,928,545 $ (4,045,052) $ 12,157,327

$ 500 $ 11,475,852 $ 766,232 $ 6,667,106 $ (4,307,197) $ 14,601,992

$1,000 $ 20,182,281 $ 274,908 $ 9,231,008 $ (5,061,162) $ 24,627,034

*Data between January 1st 2010 and August 31st 2011**Calculated for the 38 distinct days with UDS cases with TMOR reserve deficiency

Appendix 3 – Hours used to calculate cost estimates

• The 231 UDS cases used to develop the cost estimates occurred on 75 distinct hours (38 distinct days) between January 1st 2010 and August 31st


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Changing the System TMOR Reserve Constraint Penalty Factor