FERC Proposes Reform for Credit Practices in Organized Wholesale Electric Markets (Docket No. RM10-13-000)

1.      SUMMARY

On January 21, 2010, FERC issued a Notice of Proposed Rulemaking (“NOPR”) to reform credit practices in organized wholesale electric markets. The NOPR asserts that these reforms will help to ensure just and reasonable rates within markets operated by regional transmission organizations (“RTOs”) and independent system operators (“ISOs”).

2.      MAJOR ISSUES FOR COMMENT

Reforms that provide greater protection to creditworthy entities against defaults by less creditworthy entities are likely to benefit all participants in organized wholesale electric markets. However, participants should carefully consider the impact the proposed regulations would have on their own credit circumstances and provide comments to FERC accordingly. As noted below, many of the reforms are based on practices already implemented in RTOs and ISOs around the country, and feedback from participants in those markets could assist FERC in analyzing the potential impact of such reforms on a nationwide basis. Some specific issues that market participants may want to consider are: (1) the feasibility of a seven-day settlement cycle from a cash management perspective; (2) the impact of a $50 million limit on unsecured credit in energy markets; and (3) the impact of the elimination of unsecured credit in the Financial Transmission Rights (“FTR”) markets.

BGM is prepared to assist affected market participants in preparing comments in response to FERC’s proposals.

3.      FERC’S PROPOSED REVISIONS AND REQUESTS FOR COMMENTS

The NOPR proposes the following revisions:

• Shortening the length of the settlement cycle to no more than 7 calendar days with no more than an additional 7 calendar days for final payment. The NOPR asserts that this change will lower the level of financial assurances required, reduce the aggregate level of payables outstanding at any point in time, enable updated transaction prices and charges to be used in a timely manner in determining credit risk exposure, and provide earlier identification of default situations. FERC also requests comment on the practicality of implementing daily settlement periods within one year of implementing weekly settlement periods.

• Reducing the extension of unsecured credit in energy markets to no more than $50 million per market participant. FERC states that as the timeframe for settlement shrinks, so does the amount of unsecured credit participants need. FERC also seeks comment on whether there should be an aggregate cap to cover an entire corporate family, and whether the cap should be different for markets of different sizes. In addition, FERC seeks comment on the practicality of eliminating unsecured credit altogether if it adopts daily settlement within one year of implementing weekly settlement periods.

• Eliminating unsecured credit in FTR markets. The NOPR explains that FTR markets have unique risks distinguishing them from other wholesale electric markets, that the value of an FTR depends on unforeseeable events, and that FTRs are relatively illiquid, adding to their inherent risk.

• Requiring RTOs and ISOs to include tariff revisions clarifying their status as a party to each transaction to eliminate any ambiguity or question as to their ability to manage defaults and to offset market obligations. In support of this revision, FERC cites the Mirant bankruptcy and default in the California ISO market. Because CAISO had not taken title to the transactions, it could not net payments owed by Mirant against payments owed to Mirant. FERC seeks comment on whether this change would have ramifications beyond addressing the stated risk.

• Requiring tariff language specifying minimum participation criteria for all market participants. FERC seeks comment on what the minimum criteria should be and the process by which the organized wholesale electric markets adopt such criteria.

• Requiring tariff language specifying when a market administrator may invoke a “material adverse change” as a justification for requiring additional collateral. The NOPR explains that the phrase “material adverse change” is ambiguous and could lead to uncertainty as to when a market administrator can require additional collateral. FERC states that this ambiguity may delay a market administrator’s request for additional collateral until the last minute, by which time it may be difficult or impossible for the market participant to obtain the collateral. In addition, the request for collateral at a late date could lead to reactions from other participants that result in defaults.

• Limiting the time period allowed to “cure” a changed credit position by posting additional collateral when such collateral is requested by the organized wholesale electric market. FERC asserts that a standardized time frame helps eliminate uncertainty for other market participants during periods of credit stress. FERC requests comment on the appropriate time period (e.g., two business days as in PJM), and whether the time period should be standardized among markets.

In addition to comments on the above reform proposals, FERC also requests comments on whether the proposed credit practices should be applied in the same way to all market participants, or whether they should be applied differently depending on a market participant’s characteristics. FERC proposes that tariff changes resulting from the rulemaking be submitted no later than June 30, 2011 and become effective no later than 60 days after filing. However, it also requests comments on whether the proposed changes should made effective earlier.

Comments are due on March 29, 2010.

To view the FERC NOPR, please click here.

To view the FERC press release, please click here.