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WRMA European Committee Meeting 2006 Introduction of Wind-Based Weather Derivatives

WRMA European Committee Meeting 2006 Introduction of Wind-Based Weather Derivatives. Jens Böning Merrill Lynch Commodities (Europe) Trading Ltd. Toulouse, 04 October 2006. Agenda Introduction to Wind Risk Wind Risk Management Instruments Hedging & Project Financing Benefits.

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WRMA European Committee Meeting 2006 Introduction of Wind-Based Weather Derivatives

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  1. WRMA European Committee Meeting 2006Introduction of Wind-Based Weather Derivatives Jens Böning Merrill Lynch Commodities (Europe) Trading Ltd. Toulouse, 04 October 2006

  2. Agenda • Introduction to Wind Risk • Wind Risk Management Instruments • Hedging & Project Financing Benefits

  3. Merrill Lynch Global Commodities Global Presence Europe & Africa Energy Trading Platform IBK, Energy & Power Team IBK, Metals & Mining Team London Energy Trading - Gas, Power, Oil, Coal, Emissions, Weather Madrid Paris Johannesburg The Americas Asia Pacific Houston Energy Trading - Gas, Power, Oil, Coal, Weather New York Calgary Toronto Mexico Sao Paulo Singapore Oil & Products Trading Tokyo Mumbai Sydney Hong Kong

  4. London Based Operations Merrill Lynch Global Commodities MLGC’s European Activities Market Gas Power Weather Oil/Products Coal Emissions • Brent • WTI • Gasoil • Fuel oil • Other oil products • UK NBP • Zeebrugge • TTF (Netherlands/Germany) • UK • Belgium • Netherlands • France • Spain • Germany • Nordic • Denmark • Austria • Global (excluding N.America) • API 2 (ARA) • API 4 (RBCT) • EU ETS Commodity Indices Metals Exotics and Hybrids (1) • GSCI • GSCI sub-indices • MLCI • Others • Precious Metals • Base metals • Baskets • Exotics • Cross-commodity • Cross asset-classes Cross Commodity – Spark Spread Dark Spread Oil/Gas Weather/Gas-Power etc. __________________________ (1) Available during 2006/07

  5. Agenda • Introduction to Wind Risk • Wind Risk Management Instruments • Hedging & Project Financing Benefits

  6. What is Wind Risk? • Wind risk is defined as the risk of lower than expected wind speeds and hence generation, resulting in lower revenues

  7. Local Wind Volumes Usually Vary by More Than ± 20% from the Long-Term Average Historical Wind Power Index

  8. Agenda • Introduction to Wind Risk • Wind Risk Management Instruments • Hedging & Project Financing Benefits

  9. Power Generation Curve Wind Speed Measurements Wind Power Index (WPI) Power Generation Wind Speed Creation of an Underlying Weather Index: Wind Power Index (WPI) • WPIs are purely based on wind speed measurements from independent sources • Translation of wind speed into theoretical generation output • Input requirements to create a customised WPI: • Location of the project • Type and number of turbines used • Expected annual generation

  10. Example Wind Farm Project (1): Historic WPI Historical Wind Power Index

  11. Actual Generation Output Highly Correlates with Modeled WPI Monthly generation (lhs) vs. WPI (rhs) Monthly generation vs. WPI ____________________ Source: MLGC model, 36 months of actual generation data from German wind farm

  12. Annual Generation in MWh P90 Example Wind Farm Project (2): Modeling of Expected Generation • Example wind farm • NW European location • 25 turbines • 50 MW generation capacity • 100,000 MWh generation • Typical project finance/lending bank model • Expected annual generation, based on consultants report: 100,000 MWh • “P90” case: 86,600 MWh

  13. WPI Hedging Strategy: Zero-Cost Collar Realised WPI Forgone Upside Benefit Downside Protection for Wind Farm WPI WPI Call Strike WPI Put Strike Example Wind Farm Project (3): Hedging Instrument Indicative Terms and Conditions • Under this agreement, the buyer pays the seller if the defined weather index falls below the put strike and the seller pays the buyer if the weather index turns out above the call strike. • The payment in either case is equal to the number of units the weather index deviates from the strike times the tick size, up to the maximum payout limit. • No upfront premium needs to be paid. Instrument: Zero-Cost Collar Trade Underlying Index: WPI Buyer: Merrill Lynch Seller: WindCo. Tenor: 01-Jan-2007 to 31-Dec-2011 Put Strike: 95 Call Strike: 100 Tick Size: 100,000 EUR Payout Limit: 2,000,000 EUR Settlement: Annual Index Statistics: 20-Year-Average: 100 Minimum (1971): 75.61 Maximum (1967): 126.83

  14. Agenda • Introduction to Wind Risk • Wind Risk Management Instruments • Hedging & Project Financing Benefits

  15. Unhedged Hedged Hedged vs. Unhedged Annual Generation Volumes Annual Generation in MWh • Hedging Benefits: • Significant reduction in generation and earnings volatility • Increased expected generation: “P90” case of 86,600 MWh increased to >95,000 MWh Annual Generation Variation in MWh • Wind volume hedges reduce the potential variation in cash flows during most extreme wind conditions • Hedges can be provided as stand-alone instruments or embedded in financing Improvement in worst year

  16. Increased Leverage Enhanced Return on Equity Unhedged Unhedged Hedged Hedged Financing Benefits of a Wind Volume Hedge Increased Return on Equity Increased Leverage • Mitigating wind risk may allow for reduced debt service coverage ratios and an increase of leverage • Increased leverage should boost equity returns even after accounting for the hedge cost ____________________ Source: MLGC model

  17. Thank you for your attention! Jens Böning Merrill Lynch Commodities (Europe) Trading Ltd. London/UK Tel: +44 (0)20 7995 9013 Email: Jens_Boening@ml.com

  18. Merrill Lynch prohibits (a) employees from, directly or indirectly, offering a favorable research rating or specific price target, or offering to change such rating or price target, as consideration or inducement for the receipt of business or for compensation, and (b) Research Analysts from being compensated for involvement in investment banking transactions except to the extent that such participation is intended to benefit investor clients. This proposal is confidential, for your private use only, and may not be shared with others (other than your advisors) without Merrill Lynch's written permission, except that you (and each of your employees, representatives or other agents) may disclose to any and all persons, without limitation of any kind, the tax treatment and tax structure of the proposal and all materials of any kind (including opinions or other tax analyses) that are provided to you relating to such tax treatment and tax structure. For purposes of the preceding sentence, tax refers to U.S. federal and state tax. This proposal is for discussion purposes only. Merrill Lynch is not an expert on, and does not render opinions regarding, legal, accounting, regulatory or tax matters. You should consult with your advisors concerning these matters before undertaking the proposed transaction. Disclaimers

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