Many factors play a role in driving retail electricity prices that most energy companies, and many end-users, employ teams of analysts to track all the moving parts that so greatly affect their costs and exposure to risk.
So, what are the biggest factors driving retail energy prices? More importantly, what is it about these factors that inform shifts in retail energy pricing?
In our 100+ years of experience working with the wholesale and retail power markets, we have identified the key drivers that should be in the minds of every energy marketer, and a part of the daily discourse for retailers, wholesalers, traders, and end-users alike.
Here are TRUELight’s Top 5 Drivers of Retail Energy Prices:
- Demand – The primary driver for retail power prices is demand. Demand requires generators to supply power, and transmission/distribution lines to deliver power from the point of generation to the point of demand. In general, demand for electricity drives the necessity of the entire power system apparatus. Demand boils down into two key areas – long-term trends and seasonal trends.
In the long term, population and industrial growth/decline define the exact amount of energy needed. Generation developers then respond by investing in and developing new generators if necessary. In the short term, seasonal patterns drive demand. For example, the recent winter freeze in Texas and the power outages across the state accounted for more demand for natural gas. As will the summer months increase demand for electricity across the state. Arizona, California, Colorado, Nevada, New Mexico, and Utah each had their warmest August on record in 2020.
- Supply – The supply of electricity is the second most important driver for retail power prices. Supply and demand together form the backbone of any organized market, and power is no exception. While demand defines how much power needs to be generated, the cost to generate power is what ultimately determines how expensive or cheap that power is. Traditionally, large baseload thermal power plants supply the bulk of power around the clock. However, numerous factors have disrupted this paradigm across the country, including natural gas and renewable (wind and solar) generation. The proliferation of renewables and cheap natural gas provides stiff competition to traditional baseload coal and nuclear generators, resulting in an economic retirement for these larger supply units.
The changing supply stacks ultimately result in increased price volatility, as an increasing portion of the power supply is either subject to wild swings in the natural gas market or is unresponsive to real-time price signals due to the intermittent nature of wind and solar generation. Lastly, increasing Renewable Portfolio Standards (RPS) across most states in the US drives even more development of wind and solar generation by requiring load severing entities to purchase RECs (Renewable Energy Credit) and/or SRECs (Solar Renewable Energy Credit) as a portion of their portfolio.
- Transmission –Although supply and demand are the most important drivers of retail power prices, they do not tell the complete story. Ever since electric utilities shifted towards large-scale centralized generation, high-value investments into transmission infrastructure have been necessary to transport power from where it is generated, often in remote areas, to where it is most needed in urban load centers. The explosion of renewables highlights this growing disconnect, as wind turbines are developed in the windy plains that are far from larger power demand. To both maintain the current network and recover costly investments in building out new infrastructure, transmission charges are passed along to retail customers as a necessary component of the electric bill.
- Capacity (or lack thereof) – In the Northeast ISOs, structured forward capacity markets enable generation developers to secure revenue needed to build new power plants or upgrade online assets that are aging. Capacity prices also act as signals that communicate how much new generation is needed in each area. A region with low-capacity prices is unlikely to attract significant new power plant development, and vice versa. Through these forward auctions, money moves from the load side to the generation side. As a result, capacity costs move downstream to retail electric customers. ERCOT is different from the other ISOs in that it does not have a forward capacity market, instead of relying on forwarding wholesale power prices to provide the economic signals that dictate power plant investment.
- Peak Load Contribution (PLC) – While this comes in different forms depending on the ISO, the fundamentals are the same: The ISO measures a customer’s peak load contribution during periods where overall system demand is highest. In other words, the PLC represents how much power a customer consumed during the highest peak demand periods of the year. If the load user’s contribution to demand is relatively small compared to other customers, they will experience lower PLC charges the following year. Conversely, if a load user’s contribution to the peak demand is relatively high compared to other customers, then they will experience higher PLC charges the next year. Both ISO-NE and NYISO call this the Installed Capacity tag, or ICAP. PLC is an important driver for retail energy prices and requires proper management to ensure future savings.
These 5 top factors can have a significant and dynamic impact on any firm’s energy costs, which is why incorporating them into one’s energy strategy is so fundamental.
TRUELight Energy has been tracking these essential elements in our proprietary pricing models, which are market-tested for proven accuracy. We provide unparalleled transparency to the energy industry with sought-after Forward Curves, PTC, Matrix, and Headroom Analysis. To acquire customers, make sure you are accurately capturing this dynamic power pricing landscape with many of our offerings.