White

Paper
The effect of Offshore Wind and Photovoltaic solar growth
on European Energy Market Trading and Operations
- Barry Walsh Lead Consultant Infosys
With European governments seemingly outdoing each other in the race to promote renewable energy and
make the leap to carbon neutral economies, can a utility adapt quickly enough to the rise in volatility and
overload of big data from the Smart Grid ?
www.infosys.com
Abstract1
The discussions in this paper provides some focus to the current debate in the European energy markets by attempting to take a closer
look at the key market challenges as well as a broader look at some smart solution methods. The most recent policy developments are
brought together at the start of the paper and formulated in terms of the key EU energy policy directives, i.e. meeting 20-20-20 objectives,
ensuring security of supply and promoting market competition. Germany and the UK were selected as case studies as a result of their
having market models with features relevant to most countries across Europe, yet at the same time exhibiting very different regulatory
frameworks and degree of market-driven mechanisms themselves. The discussion of challenges in these sections is positioned mainly
from the perspective of upstream asset owners with a trading function, with the solutions presented at the end of the paper concerned
with two key business functions within the same upstream utility: that of trading and risk management.
These solutions, while by no means exhaustive, do give a flavour of how European utilities should be adapting to solve the business issues
via a combination of asset-backed and IT solutions, with a more detailed analysis of their dynamics in a future smart market reserved
for a future paper. It is important also to note that the many current concept smart grid papers in circulation in Europe, and indeed
pilot projects, are pitched at the level of the distribution networks and in some sense IT is many years ahead of the development of the
energy market itself, particularly the upstream part of the value chain. Due attention is given here to the key domain issues, particularly
at the level of the transmission networks, as herein lies at least some of the requirements for IT or smart-grid solutions. In summary,
the market has to walk before it can run, and the likelihood is that some of the physical requirements in the age of renewables, such as
ensuring transmission lines carry sufficient load from offshore, may dictate how best to structure the IT solutions and/or the smart grid/
smart market in the future2.
Whats happening in
the European Energy
Markets?
Despite the generally poor economic climate, investment in European energy infrastructures is
widely seen by government across Europe as vital to ensure the continent remains competitive
in the long term. Following on the heels of the European Electricity Grid Initiative, a nine
year R&D programme to accelerate innovation and development of the European electricity
networks and ENTSOEs3 Ten Year Network Development Plan, the European Commission
unveiled a new regulation to ensure strategic European energy networks and storage facilities
are completed by 20204. The rule, when in force, would replace the existing Trans-European
Networks for Energy (TEN-E) policy and financing framework and direct EUR 9.1 billion of
investment into the completion of priority energy infrastructures.
Of the 12 priority corridors and areas identified by the EC initiative in their proposal, three5 are concerned with the key challenge facing the
industry, that of integration of renewable energy sources to demand centres. One other, the adoption of smart grid technologies, is identified
to ensure that all users have access to this renewable energy and are furthermore able to exert control over their own energy usage.
By means of the proposal, the EC aims to achieve its Treaty objectives of a functioning internal energy market, security of supply, promotion
of energy efficiency, renewable energy development, and the promotion of interconnected energy networks. Specifically it enables the 20%
reduction of greenhouse gas emissions, 20% increase in energy efficiency and 20% share of consumption from renewables by 2020 (the EUs
20-20-20 commitments).
Progress in grid upgrades and harmonization across Europe is fundamental to achieve these goals, but has historically lagged far behind the
political will and technological advances. Regulation has been murky, cross-border planning and permitting has lacked coordination and
the public is by no means sold yet on the necessary grid upgrades. However the recent unlikely alliance of TSOs and NGOs to ensure nature
conservation goes hand-in-hand with sustainable modernisation of the grid supports the EC Oct 2011 draft law to make it easier to build and
finance cross border power lines6.
1
2
It is assumed that on reading this paper, the reader already has some background on the operation and key drivers in todays energy markets.
BNetzA, the German Energy Agency have alluded at the start of this year to the still somewhat unstructured debate on how smart grids can add real value to
the energy sector and propose a clearer separation of activities into those concerning a future smart grid and those concerned with a future smart market.
European Network of Transmission System Operators for Electricity
Guidelines for trans-European Energy infrastructure European Commission 19/10/11
Northern Seas offshore grid (NSOG) and North-South electricity interconnection in Western Europe and building of EU-wide electricity highways
Sources Elia, PWC
3
4
5
6
2 | Infosys
Case Studies
Germany and the UK
Both Germany and the UK are currently undergoing great changes in their respective energy
industries as they rush to meet EU 20-20-20 commitments while attempting to ensure
security of supply and more competitive markets. Meeting renewables targets of 19.6% and
15% respectively is falling heavily on an electricity sector which, with a future increase in
electrification of transport and space heating, will share the greatest burden. Building this
much additional green energy is hard enough, without the additional factor that the countries
transmission networks are not geared up to handle the new connections.
On top of the renewables targets, Germany is faced with a mammoth task of replacing its nuclear fleet, earmarked for seemingly immediate
retirement in the aftermath of the Fukushima disaster. A total of 8.3 GW of nuclear plant has already retired in Germany7 and the rest of Europe
has seen the result of its strained capacity deficit already this winter, with French peak imports on occasion being sourced from the UK.
While Germany itself might be expected to rely more on imports in the near term, its previously aggressive build of wind farms now needs an
even faster growth rate, not least to maintain mid-term supply margins but also to meet 2020 carbon reduction targets. The industry intends to
focus on both efficiency increases from repowering the existing (saturated) onshore capacity8 and the explosion of Germanys nascent offshore
wind industry. This development is likely to be supplemented by an equally ambitious target for solar photovoltaic (PV), supported by a generous
feed-in-tariff (FIT) scheme. Germany recorded a world record installation of 7.5 GW photovoltaic panels in 2011 and is now approaching a total
of 25 GW. According to the governments own energy agency9, potentially a whopping 50 GW will be online by 2020.
As Germany grapples with the logistics of replacing an objectionable but predictable technology with a popular but unreliable one, the UK faces
its own problems in looking to 2020. Suffering from modest growth generated from an economy lacking heavy-industry and partly sceptical
at least to onshore wind, the coalition government is instead looking to offshore wind to be the flag-bearing industry of the future. The world
largest offshore wind farm, Walney, has now opened and the expectation is that the industry can generate new jobs and inject life back into a
workforce grown wary of the boom and bust of the financial sector. This is currently not so for PV, despite the introduction of a German-inspired
FIT scheme, the government has recently pulled back on incentives and only modest growth of 3.5 GW is projected to 2020.
Like Germany, the UK too is looking anxiously at its supply margins, albeit with some more breathing space before the crunch - a clifftop scenario
post 2015 which sees no more production from the coal plant opted out of the Large Combustion Plant Directive (LCPD)10 followed by the ramp
down of 7.1 GW of retiring nuclear capacity in the run up to 2020.
Values in GW
GDP Growth
Peak Demand11
Total Wind
Offshore
Photovoltaic12
Germany
2011
3.0%
75
29
0.2
24.8
74
51
14
50
2020 2011
0.7%
55
6
2.1
0.3
57
27
18
3.5
UK
2020
Table 1: Comparison of Actual and Forecasted German and UK Peak Demand and Renewables Capacity
EU 20-20-20: Ushering in the age of Renewables
The German government in September 2010 introduced a new Energy Concept to 2050 and a proliferation of new measures to meet their
goals. In this, the country has committed by 2020 to a reduction of 40% in greenhouse gas emissions and a target to produce 39% of electricity
from renewables. Following Fukushima, the government adhered to the targets despite the added challenge of replacing nuclear faster and
adopted the Netzausbaubeschleunigungsgesetz to speed up planning and licenses procedures for much-needed grid expansion. Further
7
8
9
10
National Grid Winter Outlook 2011/12
Initiatives include e.g. consultancy from Repowering-InfoBrse to develop and implement local repowering strategies
Deutsche Energie/Agentur GmbH (DENA)
Around 12 GW of inefficient coal and oil plant will be phased out in line with LCPD by the end of 2015 and further closures can be expected by 2023 as a result
of IED directives. Source: DECC
German 2011 figure based on ENTSOE data from Jan-Nov 2011 only
In 2011 7.5 GW (Reuters) was added to 2010 total of 17.3 GW (www.erneuerbare-energien.de)
11
12
Infosys | 3
commitment to Germanys ambitious targets is evidenced by the Federal Network Agency guaranteeing a generous return on equity, despite
Europes current economic woes, for investment in the electricity network13.
While German was releasing its Energy Concept, DECCs 2050 Pathways engaged the public in determining suitable pathways the UK could
potentially follow to reduce emissions by 80% by 2050, relative to 1990 levels14. This was supported in 2011 by the UK Renewable Energy Roadmap
in which the government recommits to a 30% renewables to power target. To support the offshore wind development, Ofgem is tendering
the process to grant Offshore Transmission Owner (OFTO) licences and as owner of the seabed around the UK waters, the Crown Estate has
auctioned off an equivalent of 40 GW of capacity.
Ensuring security of supply: how are they going to implement this?
Security of supply concerns in Europe are not only restricted to fossil fuels and problems with importing from relatively few, often political
instable source countries. Delivery of renewable energy, too, must be secure and the German Agency for Energy and Water (BDEW), perceiving a
barrier to progress, has called for action to decouple transmission connection from the project plans of individual wind farms. The relatively low
capacity of the North-South transmission line is a major issue and although flows have been looped through neighbouring Netherlands to some
extent, wind curtailment has been occurring for some time, and indeed the associated negative prices on the EEX power exchange that go with
it. Further transmission challenges are the environmental impact of the grid upgrade and the cable length required: offshore wind in Germany
is currently connected to shore relatively far inland while the wind farms sites are most suitably located far offshore15. Possible solutions may
be the use of HVDC16 cables, increasingly suited for bulk transmission over long distances, and at least some partial undergrounding of cables.
In the UK, Ofgem via Project Discovery, has identified a 200bn investment requirement to protect security of supply and 7bn has already
been earmarked for Scotlands high voltage network by 2021. To accommodate its aggressive offshore wind targets, the UK will need to employ
similar strategies to Germany and despite the action of Ofgem and new projects in the pipeline17, the ageing onshore transmission network is
not currently suited to receive the load. Already the UK has experienced wind-cut out events where wind speeds exceeded levels safe to run
wind turbines18. With current levels of wind production expected to increase at least four-fold, the problem will only be exacerbated further and
operating reserve will be put under severe strain.
Making markets more competitive: what happens to the power price ?
By virtue of the opening of new interconnected routes for power to flow, the EC hopes to push towards their goal of an integrated power market.
Indeed, integration of large volumes of wind farms into a hub-based European wide offshore grid19 could naturally lend itself to both increased
security of supply as well increased market coupling. Fossil fuel-backed incumbents may look worryingly at this scenario and see huge potential
to drive down their power margins, particularly in Germany where traditionally the Big Four have enjoyed the benefits of more regulated market,
with comparatively more state protection than the more open UK energy markets. The perceived loss of dependable revenue is as a direct result
of the implied growth in renewables generation; initially a high cost technology to invest in, but ultimately cheap to run in the long term. As all
markets rely on the principle of merit order economics, this means an ever-falling cost of plant at margin and therefore a collapse in wholesale
energy prices. With some figures for German PV and wind alone projecting a surplus capacity of 27 GW in 2020 and given the negligible running
costs of both technologies, the question might arise, just how low could the wholesale electricity price theoretically drop?
In practice, the economics are not so straightforward; load factors of both wind and PV are not sufficient to meet demand in every hour20. The
argument also goes on the generation-side that inherent volatility necessitates a need for back up generation; often expensive oil plant is the only
viable alternative to ramp up/down quickly enough. In the UK, it is in fact an alarming drop off in capacity for LCPD combined with a perceived
need for this additional flexible capacity which has pushed DECC toward the somewhat distorted market mechanism of Capacity Payments as
the only means to guarantee reserves in future21.
While governments, regulators, grid and market operators grapple with these concerns, utilities are at the same time anxiously trying to
understand what these changes mean for them and seeking ways to influence the future market direction. We focus in the remainder of this
paper on two main challenges as utilities try to adapt to the new renewables-driven market fundamentals:
1. How will the implied volume of renewables affect trading and forecasting
2. How can a vertically integrated utility adjust its operations to mitigate renewables risk
13
14
15
16
17
18
19
20
http://www.bundesnetzagentur.de/cln_1911/SharedDocs/Pressemitteilungen/EN/2011/111102ReturnOnEquityElectricityGas.html?nn=48242
The carbon budget established under the Climate Change Act 2008 requires a 37% cut in emissions by 2020
See e.g. EWEA Offshore Electricity Infrastructure in Europe Oct 2011
High Voltage Direct Current
Such as the 2 GW Western HVDC link connecting Scotland with England and Wales
e.g. http://www.icis.com/heren/articles/2011/12/14/9516653/power/edem/uk-electricity-curve-shows-first-signs-of-exposure-to-wind-volatility.html
See EWEA OffshoreGrid: Offshore Electricity Infrastructure in Europe Oct 2011
e.g. Q311 UK wind output was below average at only 19% (onshore) and 31% load factor (offshore). Solar PV estimated production was 7.8% load factor. Source:
National Statistics / DECC Dec 2011.
4 | Infosys
The Effect on trading
and operational
activity of a European
utility
How will the implied volume of renewables affect trading and
forecasting
A summary of the infrastructure measures currently being discussed/ under consultation in
Germany and the UK is shown in appendix I. These capture those expected developments
which are either directly related to the build of offshore wind farms (e.g. North Sea Offshore
Grid Initiative, feed-in tariffs) or which are separate issues in themselves but which would
directly influence the place of wind and photovoltaic solar in the merit order and thereby
the power price (increased external interconnection, carbon capture and storage, electric
vehicles etc.)
Draining of dependable income
The tendency with these renewables-led developments may appear to present a draining away of dependable sources of income in the context
of a trading environment as the emphasis shifts from utility-backed asset economics to consumer led economics, but this neednt be the case.
Price volatility is generally seen as an opportunity to make a profit, while the complexity of analysis required to support proprietary trading is
more of a challenge. With the implied volumes of renewables growth in Germany, a trading utility will increasingly need to rely on sophisticated
options tools to understand extrinsic value and maximise profit on the uncertainty. But any algorithm is only as good as its input data and
investment in industrial strength forecasting models (picked from the cloud), backed up with best-in-class meteorologists are also necessary
to support trading activity.
Decentralised Generation
With the decentralisation of power generation, increased volume of non-dispatchable plant and the corresponding enlightenment of the
demand side, trading activity will need to look increasingly outside plain-vanilla commodity markets and seek income from provision of other
products and services. As ENSTOE have pointed out, the provision of adequate and reliable ancillary services by parties connecting to the system
is essential to ensure continued security of supply, particularly in the context of high levels of renewable generation. Balancing markets may
too present better opportunities for generating returns as independent RES22 units enter the fray and seek services to manage their risk23. At
the same time and as long as these RES units continue to enjoy fixed FIT income, utilities may explore options around aggregated balancing
services for exposed wind power producers compensating for a growing lack of merit-order economics.
Indeed, even after RES units mature and subsidies drop off, trading-backed utilities are still likely to maintain the best view of market fundamentals
and as such would be best positioned to offer both ancillary and balancing services to less experienced independents looking to manage their
exposure to the power price24. In short, utilities will need to exercise a degree of agility, not least to manage their supply and demand over
multiple time frames but also due to shrinking gate closure times to allow maximum opportunity to balance wind forecasts.
How can a vertically integrated utility adjust its operations to mitigate renewables risk
The intermittency of wind is independent of the amount installed, but it is clear that with accelerated growth the risk to utilities grows with it.
Along with new fossil fuel peaking generation, of the potential methods of mitigating the problem: direct customer load reduction, electric
vehicles (EVs), storage batteries or other storage such as CAES, heat pumps, increase interconnector capacity or power to gas storage etc., all
address those times when there is too much wind (over-generation), and none really address what happens when the wind doesnt blow. This
is where Demand Side Management (DSM) and utilisation of virtual power plants (VPPs) can greatly help25.
Managing Customer Load
To compensate for a sudden drop in wind at any given time, a properly implemented Advanced Metering Infrastructure (AMI) would be a key
enabler to ensure rapid reduction of demand. The corresponding market signal arising from under-production would be a higher price26, giving
21
22
23
24
25
26
Electricity Market Reform (EMR) White Paper 2011 Planning our electric future: a White Paper for secure, affordable and low-carbon electricity
Renewable Energy Source
50Hz and Tennet are now marketing energy for intraday trading on EPEX at 15 minute granularity giving the market more scope for intra-hour profit taking
A similar line of reasoning is Ofgems consultation on an expanded role for the market operator Elexon given its position as a first mover.
Source: EDF. Also new peaking generation can help here but would tend to run against the tide in terms of an ultimate goal of zero carbon emissions
The reverse situation for overproduction would be a lower price triggering an increase in demand or a decrease in supply
Infosys | 5
the utility two choices: increase supply from other sources or lower the target demand level by interrupting on a large scale Virtual Power Plants
such as non-critical industrial processes, customer fridges, freezers and dishwashers programs. A German utility though knows that Demand
Side Management is theoretically more manageable with the energy mixture we have today, but complexity grows with the rise of alternative
energies and its replacement of the old reliable lignite and nuclear technologies. As described above, any optimal IT solution really needs to
properly address real-time variability.
Big Data
Big Data is a new smart tool for traders are also vital; simply having web services provide live price feeds, wind and solar data and traditional plant type
aggregated data will not be sufficient to keep track of the markets pulse. Massive cloud-based data warehouses with a Business Intelligence
front end where a user can have instant access to live and historic pattern wind /solar smart grid data and access to more detailed consumption
at solar/wind farm level will become a necessity as part of the day to day operations of a front office trader-analyst. It is conceivable that the
operational control centres of the grid operators of today (Amprion, EnBW, Tennet and 50Hertz in Germany and NGT in the UK) may become
the operational desks of tomorrows prompt traders, with each market fundamental and grid congestion bottleneck displayed in dashboard
format from country down to individual wind farm or even turbine level. Indeed the reeling in by European utilities of fully-integrated Business
Intelligence (BI) systems used more typically in the domain of TSOs and plant operators may be critical to their survival, with supervisory control
and data acquisition (SCADA) systems increasingly repositioned for use at energy trading level.
Grid bottlenecks On demand exibility RES over-generation
Extracting values from existing assets
Volatility
Managing customers load
Big data
Micro-management of Supply & Demand
Challenge
s
Consumer enlightenment
Non-dispatchable generation
Complex analysis
Volatility
Extrinsic value
Forecasting RES
Optionality
Complex ramp up/ down operations
Insu cient live data System balancing
Decentralised generation
Shrinking gate closure times
AGILITY
PROPRIETARY TRADING
Business
and IT
Solutions
OPTIMIZATION
Provision of ancillary services
Aggregated balancing services
Cloud services for COTS
Sophisticated options tools
Best of breed meteorologists
New market products
DER-integrated BI
OPERATIONAL RISK
Peaking plant dispatch
SCADA systems
DER interruption
AMI
Storage options:
ELVs
Heat pumps
CAES
Power 2 Gas
Managing aggregated RES risk
Data Warehouses
Demand Side Management
Industrial-strength forecasting models Sophisticated algorithmic tools
Conclusion
The latest developments in the European Energy Markets are on a critical path to meet the ECs key objectives
and ultimately 20-20-20 commitments. Despite the slow progress, transmission networks need to undergo rapid
overhaul and will in the near future be replaced by smart-enabled supergrids. Whether it is on the trade floor or
in the back office, arbitraging across markets or managing risk, a European utility has its work cut out to adapt
to the speed of the changes taking place. Agility is crucial, but cannot guarantee success on its own and must
be supported by a deep understanding and management of the complexity. The energy trading environment of
the next decade requires optimization on a hitherto unseen scale to ensure new revenue streams are created, to
cope with the decentralisation of power generation, to manage customer load and to deal with the huge data
requirements. To evolve and survive, optimization will need to be embedded in the very fabric of the business;
across multiple timeframes, markets and commodities, across all resources and above all across all data-points.
6 | Infosys
APPENDIX I Renewables-enabling infrastructure measures currently under discussion and resultant effect on power price
Price Effect 2020
Peak Offpeak
Example development
DE
NorGer link
North-South
network
UK
additional 1
GW on UK-FR
interconnector
Western HVDC
link
Development Focus
Increased external
interconnection
Grid
measures Transmission network
(internal)
Distribution network
integrated offshore grid
New nuclear
Note
Easing of transmission bottlenecks, would
increase unconstrained power generation and
market coupling, both driving down outturn
power price
Connecting renewables directly to load at
lower voltages would reduce the residual load
requirement and hence the clearing price
Not likely before 2020
Relative to current prices marginal cost is more
than renewables due to use of uranium





North Sea Offshore Grid Initiative
N/A
all retired by 2022
e.g. EDF 6.4GW
of EPR reactors
at Hinkley Point
and Sizewell
Carbon Capture and
Storage
Supply side
measures
Distributed/Small-scale
generation, e.g. CHP
New peaking plant
New Pumped Storage
Feed-in tariffs
Capacity Payments
Carbon Price Floor
Smart Grid / AMI

Post 2020 - assuming online at a time when
markets already dominated by renewables, little
further effect on price
Emissions
Adoption this April Performance
of BMWis27 CCSStandard (EPS)
Actset at 450g CO2/
kWh28








Typically gas and oil plant priced at higher
marginal cost than average clearing price
Relative to current prices
Guarantee of fixed payments beyond normal
trading revenue would tend to lessen the need
for a scarcity premium on top of short run
marginal cost
But only if fossil fuels still required to meet
demand
In so far as enables actions to reduce demand,
and therefore power price
Load shifting from peak to offpeak
National Platform
for Electric
Mobility (NPE),
presented in May
BMWi publication
on potential of
the heat pump
to manage
load in the
electricity market
and integrate
renewable
energies
E.Ons Waldeck 2
300 MW extension
approved
Reduced 2012 EEG
tariffs
See footnote 20
See footnote 20
See footnote 20
Demand Side
Measures
Electric vehicles
Heat pumps


Storage for over-generation would ease price
pressure later during peak periods
CAES
Power to Gas
27
28
Federal Ministry of Economics and Technology
See UK Governments Electricity Market Reform (EMR) White Paper 2011 Planning our electric future: a White Paper for secure, affordable and low-carbon
electricity
Infosys | 7

APPENDIX II Further References
http://ec.europa.eu
www.entsoe.eu
www.susplan.eu
http://www.addressfp7.org/
http://www.twenties-project.eu/
www.eex.com
www.bundesnetzagentur.de
www.bmu.de
www.bmwi.de
www.bmz.de
www.bdew.de
www.dena.de
www.decc.gov.uk/
http://www.nationalgrid.com/
www.ofgem.gov.uk
www.elexon.co.uk
www.tennet.org
NGT Operatingin2020_finalversion0806_final June 2011
Renewable UK Offshore Wind Forecasts of future costs and benefits June 2011
EC On security of energy supply and international cooperation - The EU Energy Policy:
Engaging with Partners beyond Our Borders Sep 2011
Gartner Smart Grid Survey: What Utilities Want and Where They Think They Can Get It Sep 2010
EWEA OffshoreGrid: Offshore Electricity Infrastructure in Europe Oct 2011
ENTSOE Scenario Outlook and System Adequacy Forecast 2011 2025 Main Findings Feb 2011
EEG Development of renewable energy sources in Germany 2010 July 2011
Project_Fenix_2009-11-24_Constructing_the_Active_European_Power_Grid_Juan_Marti_v1
EC Guidelines for trans-European Energy infrastructure European Commission Oct 2011
DENA Positionspapier_dena-Verteilnetzstudie Nov 2011
BNetzA 110831NuclearPowerExitSummaryReport Aug 2011
ENTSOE Offshore Transmission Technology Nov 2011
ENSTOE / Europacable Joint_ENTSO-E_Europacable_FINAL_17_Dec__2010_signed Jan 2011
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