Virtual Regional Dispatch (A Cross Border Hedging Proposal)

1. Virtual Regional Dispatch(A Cross Border Hedging Proposal) Select Energy, Inc. G. Elsoe Jorgensen, Ernan Ni & Jau-Jia Guo August 8, 2003 The people who create efficient markets

5. Objective of Cross Border Hedging VRD Proposal • The CBH/VRD is a proposal similar to ISO-NE’s VRD proposal to create efficient dispatch and market arrangements between the separate NY and NE LMP markets across the NY/NE Control Area Border. • The CBH/VRD concept is to create an efficient NY/NE Real Time dispatch and to provide for market arrangements similar to what would exists if a single Control Area LMP market were to cover the NY and NE states

6. CBH/VRD Objective(Same as ISO-NE Proposal) • ISO’s to schedule physical interfaces to minimize the Region’s production cost (Maximize dispatch efficiency) • Increase output of generators in the Control Area of lower cost and decrease generator output in Control Area of higher cost • Move Region’s dispatch toward single system dispatch efficiency

7. CBH/VRD Physical Scheduling Concept(Same as ISO-NE proposal) The amount of flow between the two control areas will be determined by the ISOs in the following manner: • The ISOs’ scheduling objective is to converge prices at the respective proxy buses. • The ISOs will review and adjust the physical interchange every 15 minutes to maintain price convergence. • The ISOs will share explicit pricing curves representing sensitivity to interchange schedule changes, for the purpose of establishing efficient interchange.

8. Physical Scheduling Concept(Same as ISO-NE Proposal)

9. Physical Scheduling and Dispatch Concept(Same as ISO-NE Proposal) • The structure of this straw proposal is consistent with the design and capability of the dispatch functions of both markets. • ISO-NE security constrained dispatch with look-ahead • NYISO RTS including RTC and RTD • More importantly, the cross border dispatch concepts should as closely as possible emulate a combined NY/NE single Control Area single dispatched LMP market

10. Day Ahead Market Design Not Changing (Same as ISO-NE proposal) • CBH/VRD makes no changes to the either the NY or NE internal Day Ahead Market including: • *FTRs • *ARRs • Offering and Bidding at the NY Proxy Busses as Incs and Decs

11. How to apply current market concept to Real Time Cross Border arrangements • In the DAM, market moves arrangements from Node A to Node B by selling in at Node A and buying out at Node B in combination with FTRs between Node A and Node B to hedge against Nodal Price differences. • The CBH/VRD proposal applies the same concept to move market arrangements in Real Time between the NE and NY Proxy Nodes in combination with Cross Border Hedging Rights,CBH, between the NE and NY Proxy Nodes to hedge against Proxy Nodal Price differences

12. Cross Border Hedging, How it works • Participants can purchase Real Time CBH Rights between the NE and NY Proxy Nodes via an auction. Just like a one can purchase DAM FTR rights between internal Nodes via an auction, • CBH Rights holders will be paid the NE and NY Real Time Proxy Nodal Price differences. Just like the FTR holders are paid the DAM Nodal Congestion differences between the internal FTR Nodes.

13. CBH/VRD and Changing Market opportunities • Load serving entities and suppliers can now negotiate Real-time transactions across control area boundaries without risking price separation across the NY/NE boundaries • Per the CBH/VRD proposal, the holders of CBH Rights, similar to FTRs internally to NE or TTCs in NY, will be able to negotiate Real Time Transactions between the NY/NE Proxy Busses and applying the CBH Rights to protect against Proxy Price Price separations. • Per the CBH/VRD proposal, the CBH market becomes a separate cross border congestion rights market like the internal NE FTR and NY TTC markets • This is no different than how a single control area LMP market, NE and NY combined market, real and not virtual, would function with FTRs between the Nodes making up the Proxy Nodes.

14. CBH Auction and Revenues • CBH will be obtained from an auction, just like how the FTRs are auctioned out. • CBHs are unidirectional in terms of from NE to NY or from NY to NE. • CBH Auction Revenue Right distribution to be negotiated. ( Could go to compensate for phasing-out Out-service. When Out-service is completely phased out, could go to RNS fund. Could go to LSE in the sending region not congested-in, etc.)

15. CBH/VRD Revenue Accounting • Two separate CBH Congestion Revenue Funds, one for NE and one for NY, will be credited with revenues in the following manner. • A NE CBH Congestion Fund will receive payments based on the (NY’s NE Proxy Price minus the NE’s NY Proxy Price) times the MW of actual energy transferred from NE to NY • Likewise a NY CBH Congestion Fund will receive payments based on the (NE’s NY Proxy Price minus the NY’s NY Proxy Price) times the MW of actual energy transferred from NY to NE • The concept is not different from the internal NE or NY Congestion Revenue collection concept

16. CBH/VRD Revenue Accounting • The two CBH Congestion Revenue Funds will distribute payments in the following manner. • Holders of CBH fromNE to NY will receive funds from the NE CBH Congestion Fund • Holders of CBH fromNY to NE will receive funds from the NY CBH Congestion Fund • The concept is not different from the allocation of Congestion Revenues in NE to holders of FTRs • The CBH Congestion Revenue Fund might be over or under funded and it depends on many variables

17. Application of Hurdle Rates in ISOs’ Price Sensitivity Curves • By applying Hurdle Rates (Out-service, Ancillary Service costs, etc.) in the ISOs’ Price Sensitivity Curves, it will force Proxy Price separation with less MW transferred across borders. • By applying No Hurdle Rates in the ISOs’ Price Sensitive Curves, it will create a better closing of Proxy Prices and with more MW transferred across borders. • Since, (Proxy Price Differentials) times (MW transferred) creates the CBH Congestion Revenue Fund, the question is which proposal, with or without a Hurdle rate, will create the largest amount of Congestion Revenues? • Prices the Market is willing to pay for CBH Rights, and accordingly the size of the ARR fund, will be high or low as the Market adjusts to the size of the CBH Congestion fund which again depends on the Hurdle Rate applied in dispatch

18. General impact of Hurdle Rates • Too high Out-Service in Hurdle Rates, less power will flow and less Out-Service paid to Transmission Owners. • Discounting of Out-Service could create more total Transmission Revenues. It also brings the Proxy Nodal prices closer together • Hurdle Rates together with too many CBH sold could create Negative CBH Congestion Fund. (ISOs sold 1200 MW CBH transfer, assuming only transmission congestion were a barrier to power flow, but Hurdle Rates prevented power from being schedule to the full 1200 MW thereby creating Proxy Price separation, increased CBH Congestion revenues, but inadequate CBH Rights payments. Market was oversold. • Amount of CBH auctioned off could be adjusted to be reflective of Hurdle Rate issue, could be used to purposely create surplus CBH Congestion Revenues. Surplus CBH Congestion could be allocated to pay for Ancillary Service, etc.

19. Summary of CBH/VRD • ISO-NE schedules across NY/NE interface based on Proxy Prices • Special Cross Border Hedging Market auctions off Cross Border Hedging Rights. • CBH ARR allocation to be negotiated • NY/NE Proxy Node Price Differentials post ISO scheduling times MW flow accumulated in CBH Congestion Fund • CBH Rights holders paid from the CBH Congestion Revenue fund • Phased-out Out-service, Ancillary Service, etc. to be assessed how best managed. • Hurdle Rate creates natural Proxy Nodal Price separation and Surplus or Negative CBH Congestion Revenues. Situation must be managed • Any VRD proposal ISOs or CBH must address almost identical issues.