Harnessing the Power of Contracts for Difference (CFDs) and Energy Storage

In the rapidly evolving energy sector, merchant power projects have emerged as a significant area of focus. These projects, which sell electricity at market prices rather than at a fixed price under a power purchase agreement, present a unique set of opportunities and challenges, particularly in the realm of merchant revenue risk. However, as the industry navigates this complex landscape, two tools have emerged as powerful allies in mitigating these risks: Contracts for Difference (CFDs) and Energy Storage.

CFDs are long-term fixed price contracts where the generator pays the state if wholesale markets rise above the agreed price. This mechanism provides a safety net for renewable energy projects, ensuring a stable revenue stream and mitigating the volatility inherent in market-based pricing models.

The European Commission's recent draft power market reforms have underscored the critical role of Contracts for Difference (CFDs) in the renewable energy sector. These reforms are a response to the challenges of long-term investment periods, complex permitting processes, and high inflation, which have led to phenomena like undersubscription in renewables auctions. The reforms mandate that EU members channel any state support for renewable energy projects through CFDs, a strategy designed to stimulate growth in wind and solar sectors while shielding consumers from escalating energy prices.

Simultaneously, the increasing penetration of variable renewable energy sources necessitates significant needs for flexibility services in the power system. Storage facilities, including pumped storage and batteries, are expected to see an increase by 2030, which will accelerate even further afterwards. The development of electrolyzers for the production of hydrogen will support the decarbonisation of the gas system and over time replace gas.

Nevertheless, the deployment of CFDs and energy storage technologies is not without its hurdles. Industry insiders have cautioned that excessive reliance on CFD contracts could stifle market growth and impede the emergence of new technologies. Striking a balance between risk mitigation and fostering market innovation is a nuanced task, necessitating thoughtful policy design and strategic decision-making.

In spite of these challenges, the predictable revenue streams provided by CFD contracts, coupled with the adaptability offered by energy storage, have demonstrated their significant value to the renewable energy sector. These tools, by assuring income for a specified period and offering a safeguard against market volatility, are instrumental in charting a path towards a more sustainable and resilient energy future.