Last week SNW Asset Management had the opportunity to moderate a panel discussion at the National Federation of Municipal Analysts (NFMA) advanced seminar held in Seattle. Our own Mark Stockwell led a full day discussion at the pre-seminar analyst forum with various Pacific Northwest based revenue bond issuers and NFMA members. The advanced seminar focused on the public power sector, and the discussion confirmed many of the themes for the sector we outlined in our August bullet titled Cha Cha Cha Changes!!! Public Power Sector Analysis. In this week’s bullet we will cover the duck curve, carbon emission policy uncertainty and what it means for the sector.
First, what is the duck curve? As we mentioned in our previous sector analysis, overall electricity consumption is flat in the U.S., and renewable energy policies are tilting new generating capacity toward carbon neutral options like solar power. As a result there is a mismatch between when energy is generated and consumed. Solar generation is at its highest when demand is low and lowest when demand is high, which is to say solar panels produce more electricity when the sun is high in the sky and then drops off at sunset. The result is a “duck” shaped generation curve (see chart). For public energy utilities, this means large forecasting errors, short generation ramp up times and solar power mispricing. Public power utilities like certainty and have tight forecasting tolerances. Think about it: if the asset you’re building has a useful life of 30 or more years and you can’t forecast demand for the asset tomorrow, then you’re not likely to invest in a project. If the new plant is built but not used we call it a stranded asset, and because of the mandated cost recovery mechanism of municipal utilities the ratepayers must pay for the asset while receiving no benefit.
Second, carbon emission policy remains up in the air, so to speak. The Clean Power Plan, which aims to regulate carbon emissions, will likely end up at the Supreme Court. As such, the outcome of the plan is anyone’s guess and will likely depend on the appointment of the vacant Supreme Court Justice seat. Furthermore, the market clearing price (or the cheapest marginal unit of electricity) is generated by natural gas plants. So, if the cheapest cost of energy results from a carbon emitting source, and carbon emission policy could change, building a competitive electrical generation plant is a highly uncertain project. What is the public power entity left to do? Well, not much except for squeezing the efficiency of its current generating facilities and waiting. Energy efficiency programs typically require less capital than building a new plant, and, of course, waiting requires no capital. Consequently, the public power sector will likely see far less new bond issuance than expected given the age of the infrastructure and is supportive of near-term spreads in the sectors. This lack of future supply is one reason for our generally positive view on the sector.
Source: SNWAM Research, NFMA Advanced Seminar – Seattle