IMPACT OF MARKET RULES ON ENERGY STORAGE ECONOMICS [Eric Cutter, Energy and Environmental Economics, 415-391-5100, eric@ethree.com] [Lakshmi Alagappan, Energy and Environmental Economics, 415-391-5100, lakshmi@ethree.com] [Snuller Price, Energy and Environmental Economics, 415-391-5100, snuller@ethree.com] Overview Tariffs and market rules of an Independent System Operator (ISO) have a significant impact on the revenue potential for energy storage systems. Many aspects of existing rules, designed primarily for large, dispatchable generation resources, preclude or limit participation by energy storage providers. Furthermore, those rules do not value many of the unique services, such as fast regulation, that energy storage, can provide. Even though FERC Order 890 directs modifications of open access transmission tariffs (OATT) to allow demand response and energy storage to participate in ancillary service markets on an equal basis with traditional generation, most modifications proposed by the ISO s do not include those changes with the greatest potential to enhance storage revenues. Energy storage can participate simultaneously in multiple ISO markets, including energy, capacity, ancillary services, and in some cases local capacity. Regulation is by far the most lucrative market for energy storage, with supplemental revenues possibly from energy and capacity markets. Minimum size and energy delivery requirements, which are inconsequential for generators, can severely limit storage revenue potential. Key rule changes that can increase potential revenues (by as much as a factor of four) are: allowing bi-directional bidding for regulation, decreasing the minimum duration for energy delivery requirements, and decreasing the minimum bid size. This paper analyzes market data from four ISOs to calculate the potential revenues for energy storage providers and quantify the impact of the proposed rule changes. Storage Value Streams In this paper we analyze market data in four ISO s to study for storage revenue potential; the California Independent System Operator (CAISO), PJM Interconnection (PJM), New York Independent System Operator (NYSIO) and the Independent System Operator of New England (ISO-NE). These four ISO s were chosen because California and the Northeast have comparatively high energy and ancillary service prices and were thought to represent the best revenue potential for energy storage. The four ISO s also represent a variety of market designs and market product definitions. In broad terms, ISO s operate three types of markets to procure the services necessary to manage their systems: 1) energy markets; 2) capacity markets; and 3) ancillary services markets. The names and structure of the three markets vary from one ISO to another, but their fundamental purposes remain the same. Energy markets establish a market clearing price that balances load and generation at designated points on the transmission system. Capacity markets provide payments to generators to ensure that sufficient capacity is built and maintained to serve system peak loads. Ancillary services are specialized energy and capacity services that allow the ISO to operate the transmission grid and to respond to unanticipated contingencies such as the loss of a generator or transmission line. The three primary revenue streams available for energy storage in these markets are:
Energy Arbitrage: Energy prices are highly volatile, but tend to show a daily pattern of low prices during night time off-peak hours and high prices during daytime on-peak hours. Energy storage can take advantage of this typical daily pattern by storing energy when the price is low and selling energy when the price is high. System Capacity: Utilities and independent system operators have developed or proposed capacity markets to attract investment in new generation capacity. Capacity markets provide fixed, long-term payments to generators to encourage capital investment. Capacity markets are currently active in PJM, NYISO and ISO-NE and CAISO is currently investigating the development of a centralized capacity market. Regulation: ISO s have defined several distinct ancillary services (AS) needed to maintain reliable grid operations. Regulation appears to present the most attractive ancillary services market opportunity for energy storage. Regulation is generation (or load) that can respond quickly (usually within 4 seconds) under Automatic Generation Control (AGC) to meet shortterm fluctuations in load and generation. Regulation prices are generally much higher than other Ancillary Services such as spinning and nonspinning reserves. Prices for regulation in all the ISO markets reviewed demonstrate a similar relationship, with average regulation prices in the $15-$30/MWh range as compared to less than $5/MWh for spinning, non-spinning, and replacement reserves in most hours. For those technologies that cannot provide the response times required for regulation, the reserve markets provide an alternative, though much less lucrative, source of revenue. ISO staff with whom we have spoken indicate that storage providers have focused predominately on participating in the regulation market. Methodology 1. Gather 2006 and 2007 market data. We began by gathering historical market price data CAISO, PJM, NYISO and ISO-NE. The price data was gathered for the real-time energy and ancillary services markets. In markets with both real-time and day-ahead markets, we chose to use real-time prices because they tend to be more variable, which provides a greater revenue potential for storage. All the ISO s have a single, system-wide market for ancillary services, except the NYSIO, which is divided into East and West zones. Energy prices, on the other hand, are determined for multiple zones or nodes, as many as a thousand or more for some ISO s. E3 selected pricing points in each ISO that reflected both the high and low range of prices observed for each ISO. The capacity prices for auctions occurring since 2006 in PJM, NYISO and ISO-NE were used to estimate capacity revenues. 2. Simulate the operation of the energy storage. For the regulation and energy markets, we developed a model to simulate the bidding strategy that an energy storage provider would employ to maximize revenues. At the beginning of each day, the model looks ahead at the regulation and energy prices for each hour. As a starting point the model calculates the revenues from participating only in the regulation market and making no energy purchases or sales. 2
3 Intelligent Well Technology: Status and Opportunities for Developing Marginal Reserves SPE The model then looks at the highest and lowest energy prices for the day and determines whether engaging in energy price arbitrage can increase revenues over the regulation only strategy. The model then continues to look at the next highest and next lowest energy price for the day to make the same comparison and chooses the strategy that produces the highest revenue for the day. A charging efficiency of 80% was used for all battery types as starting assumption. Thus, the model required a purchase of 1.2 MWh of energy for every 1 MWh sold. The model assumes that it knows the real time energy and regulation market prices for the upcoming day (e.g. perfect foresight ), which would tend to overstate the potential revenues in the real world. On the other hand, the model employs a relatively simple algorithm to maximize revenues. It is possible that a more active and nuanced bidding strategy could provide addition revenue potential not captured by the model. The model also does not incorporate charges or penalties for under or non-performance that could conceivably be incurred when switching between markets. 3. Apply market rules. For any given hour, a number of factors will limit the capacity that can be bid into either the regulation or energy market. Current market rules require that a regulation resource be capable of providing the full amount of regulation bid for the entire hour and at the beginning as well as at the end of each hour. For example, a storage provider bidding 1 MW of regulation must be capable of charging or discharging 1 MW over the entire hour, that is have at least 1 MWh of energy stored and at least 1 MWh of empty storage capacity (due to efficiency losses, the remaining space can actually be slightly less than 1 full MWh). In most regulation markets, the resource submits a single bid for regulation in either the up or down direction. The resource must maintain the capability to increase or decrease its generation (or load) by the amount of regulation bid in both directions for the entire hour. This does not present a significant constraint for traditional generating resources, but does inhibit the revenue potential for energy storage, due to the comparatively small amounts of charge and discharge capacity and energy storage available. In such a market, a storage provider charging at its full capacity cannot increase its load on the system any further and is therefore precluded from participating in the regulation market at all. Because a storage provider is precluded from earning regulation revenues when it is fully charging or discharging energy, the lost regulation revenues presents a steep penalty for engaging in energy arbitrage. If the average regulation price is $20/MWh, $20/MWh of revenue is lost during both the charging and discharging hour. Once an 80% round trip efficiency is accounted for, the price differential must exceed roughly $44/MWh for energy arbitrage to be profitable. Only CAISO and ERCOT have separate regulation up and regulation down markets that would allow for asymmetric bidding of regulation capacity. This allows a storage provider to bid in the regulation up market when charging the battery and in the regulation down market when discharging the battery. This reduces the effective penalty for engaging in energy arbitrage and provides additional potential revenues. Even so, the battery must maintain the capability to provide the full amount of regulation over the entire hour. Thus if the battery is near the minimum or maximum capacity at either the beginning or the end of the hour, the regulation bid must be reduced accordingly. A full battery with 1 MW of capacity selling 1 MWh of energy can not provide regulation up as it is already discharging at the full amount. Neither can it provide regulation down, as there is no storage capacity to accept additional energy in the first minutes of the hour. 3
At this time the ISO s with capacity markets do not offer separate regulation up and down markets. The CAISO does offer separate regulation markets, but has only just begun the process of implementing a capacity market. 4. Calculate Annual Revenues Once the model has determined the optimal dispatch pattern for each day of the year, the annual revenues are calculated for each value stream; capacity, regulation and energy arbitrage. The capacity prices from the most recent auctions were used to estimate capacity revenues. The capacity market rules require each generator to go through a qualification process. Capacity market rules vary but typically require that capacity resources be able to respond to system emergencies and provide energy for a minimum number of hours. For our analysis, we assumed that at least 4 hours of energy delivery was required for each MW of capacity to meet demand during critical peak hours when system emergencies are called. This assumption is based on the minimum time energy must be provided for resources to qualify for capacity in NYISO, which required the fewest number of hours of the markets studied (Table 1). For storage configurations of with less than 4 hours of storage, the capacity revenues were prorated accordingly. For example, a battery with 1 MW of discharge capacity and 1 MWh of storage would only receive capacity payments for 0.25 MWs since 0.25 MW is the maximum bid this energy storage device can make under the four hour assumption. Table 1: Capacity market rules across ISOs Market NYISO PJM ISO-NE Capacity Rules Minimum time energy must be provided 4 hours unless it is a Special Case Resource 12 hours, can be reduced depending on technology (no set rules, work with PJM) None, but if you are called on in a shortage event and cannot provide for the ENTIRE period, you are penalized for what you cannot provide. Minimum resource size 1 MW 0.1 MW 0.1 MW The energy purchases and sales are multiplied by the applicable energy price in each hour. The net profits are the revenues from the sale of energy minus the cost to purchase the energy. Similarly, the regulation quantity was multiplied by the regulation price for each hour to calculate annual regulation revenues. An example dispatch for a battery with 1 MW of charge and discharge capacity and 2 MWh of storage is shown in Figure 1. The battery has a minimum capacity of 0.4 MWh (20%), so the starting capacity is set to 1.29 MWh, which provides just over 0.8 MW of regulation in the up and down directions (due to the 80% charging efficiency). Regulation prices averaged about $18/MWh over the course of the day, with two notable spikes. Energy prices ranged from $26 to $115/MWh, with the lower prices occurring 4
5 Intelligent Well Technology: Status and Opportunities for Developing Marginal Reserves SPE predominately in the early morning, off-peak hours. The model chooses to offer regulation through hour 5. The first energy arbitrage opportunity is to buy 1 MWh of energy in Hour 6 for $27/MWh, adding 0.8 MWh of energy to the battery to fill it to its maximum capacity. 1 MWh of energy is then sold in Hour 7 for $92.16. The battery capacity is now 1.0 MWh, so regulation revenues are reduced slightly, as the discharge capacity is limited to 0.6 MWh due to the 0.4 MWh minimum capacity for the capacity. Energy prices are high enough in hours 11, 16, 18 and 21 so that energy arbitrage is more profitable than offering regulation. The model sells energy in those hours, and then buys the energy back either one hour before or after the sale, depending on the price of energy and whether there is sufficient space in the battery. Note that the model displays a preference for refilling the battery shortly before or after the sale of energy even if lower prices are available in other hours. This is because refilling the energy quickly returns the battery to a state where it can again offer regulation. For each hour that the battery remains a minimum capacity as a result of the sale, the potential to earn regulation revenue for that hour is lost. Figure 1: Example Dispatch of Energy Storage System for One Day $150.00 $/MWh $100.00 $50.00 Energy Price Regulation Price $0.00 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 $/MWh $180.00 $130.00 $80.00 $30.00 ($20.00) $900 $700 $500 $300 $100 ($100) Cumulative Revenue Energy Revenue Regulation Revenue Cumulative Revenue ($70.00) 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 ($300) MWh 2.00 1.50 1.00 0.50 - (0.50) (1.00) 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 Buy Battery Capacity Sell Example Model Results For example, we evaluate a system application located at a node in Allentown, PA, a suburban location in the PJM ISO. A battery storage system would be eligible to participate in the PJM RPM capacity market, the regulation market, and the energy market. In 2007 the RPM market clearing price for the RPM Capacity Market was $41/MW-day or $15/kW-Yr. Prices for Regulation averaged $14 per MWh, 5
ranging from a low of $3 to a high of $228. Energy prices averaged $34/MWh, ranging from a low of negative $59 to a high of $500. Annual revenues from a battery storage system with 1 MW of charge and discharge capacity and 2 MWh of energy storage are presented in Figure 2, below. Bidding in the regulation market only provides approximately $214,000 in annual revenue. The RPM auction provides an additional $11,000 of capacity value. This represents 0.5 MW of capacity accounting for the presumed 4 hour energy requirement for receiving capacity payments. Energy arbitrage (using perfect foresight) added an additional $29,000 in net revenues, for total annual revenues of just over $269,000. Figure 2: Annual revenues in PJM for 1 MW/2 MWh storage system Total $269,687 Energy $29,242 Capacity $10,620 Regulation $213,747 Net Present Value of Energy Storage Using a simple assumption of a 12% discount rate, we calculate the net present value for the annual revenues over the estimated life of the battery. We then divide the NPV by the kwh of energy storage to estimate the dollar value of the revenue stream per kwh of energy storage. Figure 3, below, shows the lifecycle value of the Allentown example per kwh of energy storage capacity in the storage system. The x-axis shows the kwh of storage per kw of battery capacity. Although higher storage capacities would, in theory, provide additional opportunities to engage in energy arbitrage, the potential to earn additional revenues through arbitrage is small without asymmetric bidding in the regulation market. As a result, the most cost effective storage configuration is to have just enough energy storage to participate in the regulation market, given the minimum size required in each ISO. 6
7 Intelligent Well Technology: Status and Opportunities for Developing Marginal Reserves SPE Figure 3: PJM revenues with and without energy arbitrage $1,200 $1,000 $800 $/kwh $600 $400 $200 Reg Only w / Arbitrage $0 0 1 2 3 4 5 MWh Storage Capacity Figure 4, below, shows a similar comparison in the CAISO market. The CAISO market allows asymmetric bidding for regulation up and regulation down. As discussed above, this allows the battery to earn some regulation revenue even when charging and discharging. With 1 MW of charge and discharge capacity, regulation revenues are limited by the storage capacity at sizes less than 2 MWh and by the charge/discharge capacity at sized greater than 2 MWh. With limited regulation revenues at sizes below 2 MWh, energy arbitrage provides incremental value. At a size of 2 MWh, regulation revenues are maximized, and energy arbitrage provides very little additional value. Above 2 MWh, regulation is still limited to 1 MWh or less, but incremental storage capacity provides some additional arbitrage opportunities. Our analysis found, however, that even so, the additional revenue from arbitrage does not justify the addition of additional battery capacity; the highest value, in $/kwh of energy storage, is still at 1MWh for 1 MW of charge and discharge. Figure 4: CAISO revenues with and without energy arbitrage $/kwh $900 $800 $700 $600 $500 $400 $300 $200 $100 $0 Reg Only w / Arbitrage 0 1 2 3 4 5 MWh Storage Capacity 7
Summary Results We calculated the $/kwh value in each of the four ISO s, using the optimal configuration of 1 MWh or storage for 1 MW of charge/discharge capacity. The highest values were in PJM, followed closely by NYISO. Both markets provide capacity payments and have relatively high regulation prices. The value for both the ISO-NE and CAISO were on the lower end. We calculated the values for different technologies using their estimated useful lives. Because the model did not find energy arbitrage very profitable, the number of cycles per year was limited. With or without the perfect foresight assumed in the model, the lost regulation revenue during periods when the battery is at minimum or maximum capacity limits the number of times that the battery is cycled completely. The number of cycles modeled did not reach the cycle limits for the technologies modeled. The values do assume that the technologies can follow regulation signals of plus or minus 15% without significant cost to the life of the battery. Figure 5 shows the breakout of the system application net present value by regulation, capacity and energy arbitrage. The values shown are for a technology with a 20 year life. Regulation provides the majority of the system value in each of the ISO s. The opportunity for energy arbitrage varies by ISO. The highest arbitrage revenues are in the CAISO, which currently has separate regulation up and down markets. On the other end of the spectrum, the revenue maximizing strategy in the NYISO is regulation only. This is because the energy prices chosen for the NYISO analysis exhibited less price volatility as compared to other pricing points, limiting the number of price spikes that provide arbitrage opportunity. In addition, regulation prices in the NYISO were higher relative to energy prices as compared to the other ISO s. Figure 5: Contribution of Regulation, Capacity and Energy Arbitrage to System Application Value NEISO CAISO PJM Regulation Capacity Energy NYISO $- $200 $400 $600 $800 $1,000 $1,200 $1,400 $1,600 $1,800 Value ($/kwh) 8
9 Intelligent Well Technology: Status and Opportunities for Developing Marginal Reserves SPE Storage Pilot Projects Recently, the Federal Energy Regulatory Commission ruled that ISOs and RTOs must permit nongeneration resources to participate in ancillary services markets (Order 890). Regional market operators are currently reevaluating their rules in light of increased interest in energy storage and the FERC ruling, and it appears that the trend is towards making it easier for energy storage to participate in wholesale markets, and in regulation in particular. All four restructured markets studied in this analysis are in the process of evaluating energy storage devices participation in regulation markets, with some considering energy market participation as well. The Midwest ISO (MISO) and the New York ISO (NYISO) are two system operators that have created a separate resource category for energy storage devices to participate in their wholesale markets. MISO, in accordance with Order 890, submitted an amended open access transmission tariff that allows stored energy resources (SERs) to participate in their energy and ancillary service markets. SERs must be capable of responding to five minute dispatch targets and comply with all interconnection, metering, and communicating requirements set forth by MISO. NYISO created a similar category called limited energy stored resources that amends market rules to accommodate the needs of energy storage devices. For example, if the system requires regulation in a direction that the LESR is unable to provide, the LESR will be called upon last out of all of dispatchable regulation resources. Two other system operators have or are in the process of creating pilot programs to test energy storage devices integration into existing wholesale regulation markets. The pilot program descriptions below are based on conversations from late 2008 with operators in the respective markets and preliminary documentation of the programs. ISO-NE Pilot Program The ISO-New England (ISO-NE) is the first regulation market to design a pilot for technologies that aren t able to provide regulation under the current rules. The program creates a regulation market of 13 MW (almost 10% of the typical regulation market size) and invites participation by alternative technologies that fit the following set of technical specifications: Respond within 4 seconds to automatic generation control (AGC) signals Minimum size of 1 MW Provide a response capability greater than or equal to 1 MW/minute Provide an initial regulating range of at least ±0.1 MW and no greater than ± 5 MW Provide technology performance data through research and development scale specified by the ISO or large demonstration test results to confirm technical feasibility Meet all interconnection, metering, and communication requirements as defined by the ISO-NE Operating Procedures Resources that are anticipated to participate in the pilot program include energy storage, demand response, HVDC converter facilities, and renewable generation. Some technologies that have already put in inquiries to the market include battery storage, flywheels, and demand response technologies. Resources must be from 1 MW to 5 MW in size, reflecting the ISO s interest in both the variety of technologies and ability to be scaled. 9
The program is split into two phases for each resource. The first phase will be a collaborative process between ISO staff and participants and will test resource capabilities and determine how the resource performs under different parameters. Phase two will determine which resources are expected to operate continuously under a stable set of dispatch parameters. Though parameters can still be fine tuned in phase two, it is hoped that changes will be less frequent and less intensive than in phase one. Though the program rules do not specifically identify market rules that will be changed, flexibility in setting parameters may result in changes to market rules regarding minimum bid duration and symmetrical bidding. CAISO Pilot Program The California ISO (CAISO) has followed ISO-NE s lead and is in the early stages of developing a pilot program, also 10% of the current regulation market size, for non-generating resources to participate in the regulation market. The program is in the formative stages so not all details have been finalized. Information was gathered by conference call in September 2008 with Mr. David Hawkins, lead designer at the CAISO, suggested the following technical specifications will be required: Respond within 4 seconds to automatic generation control (AGC) signals Minimum size of 2 MW Potential for plug-in hybrid electric vehicles (PHEV) to be eligible Mr. Hawkins acknowledged that the one hour bid minimum could be detrimental to certain technologies that may not be able to provide regulation for that long. He suggested, but did not confirm, that the CAISO may choose to not penalize technologies for under providing during a bid period or may break bids into smaller intervals to accommodate alternative technologies. Changing Market Rules This section examines market rules that can significantly affect the value proposition of energy storage. Those rules that have the most significant impacts on energy storage are 1) minimum bid duration of 1 hour of service; 2) minimum bid size of 1 MW, and 3) asymmetric bidding. Current regulation requirements were designed with traditional generation resources in mind, and require a minimum of 1 hour of energy delivery capability to participate in the market (Table 2). This provides sufficient capacity to meet the short-term fluctuations and the increased ramp over each hour in the morning and corresponding decrease in hourly loads in the late evening. ISO s differ in the extent to which they rely on regulation as opposed to imbalance energy to meet morning and evening ramp requirements. CAISO system operators will, as an example, attempt to dispatch resources providing regulation such that regulation up and regulation down orders approximately balance out over the course of an hour. Regulation that is dispatched in an energy neutral manner provides a particularly attractive opportunity for energy storage, which is often limited either by technology or economics in the amount of energy storage that can be provided. Table 2: Regulation market rules across ISOs Market Minimum time energy must be provided Regulation Rules Minimum resource size Asymmetrical bidding Response time 10
11 Intelligent Well Technology: Status and Opportunities for Developing Marginal Reserves SPE NYISO 1 hour 1 MW No, not changing 6 secs PJM 1 hour 1 MW No, but change possible 4 secs ISO-NE Typically an hour, but it can be lower Minimum range of 10 MW No, not changing 4 secs CAISO 1 hour in day ahead, 15 min in real time 1 MW Yes 4 secs If energy storage were permitted to offer 1 hour of regulation with less than 1 hour of energy storage, potential revenues on a $/kwh of energy storage capacity could be significantly enhanced. This opportunity would be particularly attractive for battery systems, as the kwh storage capacity is typically the most expensive component. Similarly, allowing asymmetric bidding would provide greater opportunity to participate in regulation markets while simultaneously engaging in energy arbitrage. Figure 6 shows an example of the impact that these rule changes would have using the PJM market data. NPV revenues on a $/kwh basis increase from just over $1,000 per kwh of energy storage to nearly $3,500. Figure 6: Potential Increase in Energy Storage Revenues with Changed Market Rules $4,000 $3,500 $3,000 1 Hour 15 Minute $2,500 $/kwh $2,000 $1,500 $1,000 $500 $0 0 1 2 3 4 5 kwh Conclusion Storage economics can be significantly improved with changes in the Regulation and Capacity market rules beyond those currently proposed by the ISO s. Changes to the Regulation market are particularly important, as Regulation is by far the most lucrative market for energy storage. Storage can provide Regulation Up when it is full or charging and Regulation Down when empty or discharging. Without asymmetric bidding storage is precluded from providing 11
regulation in any hour during which it is full, empty, charging or discharging, significantly reducing revenue potential. Regulation can dispatched predominately in an energy neutral manner over the course of an hour. It is therefore possible to allow storage to provide a full MW of Regulation with less than 1 MWh of energy storage. For most technologies, energy storage capacity (MWh), is expensive relative to delivery capacity (MW). As a result, allowing bids of 1 MW of Regulation with 15 minutes (250 kwh) of energy delivery capacity can improve storage economics substantially. 12