PPAs in Southeast Europe: A Storm of Volatility spurs Rock-bottom Price-seeking

Fix price tradition

The price floor in the power purchasing agreement (PPA) delivered in Southeast Europe (SEE) is an invaluable option. Unlike the fixed price PPAs often entered into the SEE region, the floor option combined with an upward index price is not an attractive pricing basis for the power offtaker (PPA Buyer). At least two good reasons for this:

-???????First the problem with the index: the two closest and at the same time liquid futures markets are in Hungary (HUPX) and Germany (EEX). Thus, in the event that physical settlement is required, more than a few cross-border capacity costs should be considered.

-???????Second, the problem of volatility: the annual volatility of traded power futures exceeded 100% during 2021 and 2022 and made it literally impossible for the option provider (power offtaker on 10-15 years tenor) to manage the risk of the illiquid part - the far dated futures.

?Blind to volatility

Attending conferences in Central Eastern Europe (CEE) and the SEE region on PPA-related topics, one will become professionally exhausted with "information" on current market trends and "convincing" opinions that Armageddon will raise power prices even further (I guess above 1,000 EUR/MWh?!). Suddenly, no one remembers the same events and speakers who "convinced" the audience and the public to the contrary, that electricity will cost below 30 EUR/MWh, between 2009 and 2016. We must admit, "surprisingly" we witnessed more than a few bankruptcies due to major short positions in power trading and supply businesses in the midst of changing trends, at least in SEE region.

What struck them was volatility, without even a single word being mentioned in any of those events. The SEE market is still blind to volatility and investors are rushing to play the market open from the long side. The only "little" help they need is a hard-coded, rock-solid, guaranteed minimum hourly floor price in the PPA, and the rest is "easy". "Surprisingly" the power offtakers active in SEE Region still see some risks and are reluctant to ignore the vol.

Floored deals possible

The Armageddon trend has leveled the futures power prices during 2021 and 2022 so high, that hundreds of percent are far from the well-satisfactory threshold PPA floor of, say, some tens of EUR/MWh required by the creditor (bank)… So let's skip some lines and conclude: This fact makes the much-desired deals at least partially possible for the most liquid nearest annual products.

What power prices will the future bring?

The future brings volatile power prices. Talking the annual power product (calendar base load) will undoubtedly hit the floors before going above the last known ceiling again. The growth of renewable energy sources, the cannibalization of power spot prices, and the slowdown of the industry in the first place in Europe, globally rising interest rates are the most likely factors to reduce power prices.

When we talk about price trends and how they are reflected in SEE, it worries me even more. In terms of power price, historically the SEE region pays above the EU market in upward trends, and offers power below the EU market in downward trends. This means that the volatility in the SEE region is even higher compared to the EU market.

Structured options for the emerging power market in SEE

The SEE market, especially the long-flexible power generation in the utility sector, is starting to consider selling optionalities (23 years after Western Europe, hallelujah). This new market of embedded options offered by utility companies and power offtakers, in the form of PPAs, has also been completed by demand from corporate consumers of green energy. Bilateral negotiation and valuation of volatility in the SEE region is becoming a new practice of the few who could offer and potentially profitable if properly valued and implemented in the right way.

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