The European Federation of Energy Traders (EFET) has called for the creation of a time limited emergency liquidity support system, to ensure the continued function of the wholesale energy markets amid continued volatility.
In a letter sent to market participants this month, the trade association pointed to price levels and volatility across wholesale energy markets including within bilateral trading and that in the UK based ICE Futures Europe market, the German European Energy Exchange and Dutch ICE Endex regulated markets.
“Massive price movements on European energy Exchange markets have resulted in massively increased margin requirements for market participants,” the letter explains.
“Since the end of February 2022, an already challenging situation has worsened and more energy market participants are in a position where their ability to source additional liquidity is severely reduced or, in some cases, exhausted. There is consequently a significant risk at hand that some firms might not be able to meet additional margin calls issued by their clearing bank, although they need to continue to hedge their physical assets to avoid exposure to market price risks.”
The EFET provided an example of a producer that hedges both gas and power via the exchanges, in the summer of 2021, it had to pay an initial margin of £841 million (EUR1 billion). By October 2021, this had jumped to £3.4 billion (EUR4 billion) and by March 2022 to £5 billion (EUR6 billion).
The same company will have also seen daily margin cash flows related to price movements, which previously sat at around £42 million (EUR50 million) within a business day, surge to £420 million (EUR500 million).
Because of this, it is not infeasible to imagine that generally healthy and sound companies will be unable to access cash to meet these unprecedented margin requirements. This risk could further grow if sanctions against Russian gas, oil and coal imports are increased, increasing volatility in the wholesale markets.
If these markets caused companies to default, this in turn would create further volatility in the market, and could lead to a domino effect, risking energy security across Europe.
As such, the Federation has suggested the establishment of emergency funding mechanisms, which would be triggered when the margining requirement for operation in the market reaches a level that will likely lead to several market participants defaulting.
The funding could be provided by any high credit rated public entity, the EFET suggests, including governments, national central banks or public law financial institutions like the Bank of England, European Central Bank or European Investment Bank.
This liquidity support scheme would be managed by the clearing member firms, and used only during times of extraordinary market stress.
In the UK, the impact of market volatility is translating into dramatically increased energy bills for households. In April, the price cap is set to jump by 54% to £1,971 on the back of the 500% increase in gas prices in 2021 driven by a number of factors including economies restarting following COVID-19, reduced imports from Russia and high demand in Asia.
Following the Russian invasion of Ukraine on 24 February, price volatility has increased further, with analysts now predicting that bills will surge beyond £3,000 for the next price cap period in October.
The UK only relies on Russia for around 4% of its gas consumption, however the price is set by the international market, therefore whilst there is little risk to the security of supply, the country will be exposed to dramatic increases in cost.
Calls are growing for the UK to act to protect consumers, companies and the wider economy amid the continued energy volatility. Prime Minister Boris Johnson is expected to release an energy supply strategy this month, and has pointed to the importance of renewables, nuclear and domestic oil and gas production for energy security.
