Virtual Bidding Brings Real Costs to California Customers

The California ISO (CAISO) implemented functionality for convergence (or virtual) bidding in the day-ahead market beginning in February 2011. Virtual bidding is designed to allow a market participant, regardless of whether or not they own physical load or generation, to place bids to buy and sell power into the day-ahead market. As these bids are only virtual and not physical, they will liquidate in real-time and cause the physical system to re-dispatch accordingly.

Virtual bidders profit by arbitraging the difference between day-ahead and real-time prices. In theory, as participants take advantage of opportunities to profit through convergence bids, this activity should drive real-time and day-ahead prices closer. While average price convergence appears to have improved since February 2011, this improvement is a result of averaging hourly prices over the day. In some hours, real-time prices still tend to be higher than day-ahead prices, and in other hours real-time prices are lower. These systematic price differences continue to make virtual bidding highly profitable but it increases costs to load serving entities which eventually appear on customers’ bills. For NewEnergy customers, these charges are passed-through without markup as part of the CAISO fees and appear in the Ancillary Services Charge line item of the invoice.

According to the ISO’s Department of Market Monitoring’s (DMM) Quarterly Market Performance Report for August, the “DMM’s assessment of convergence bidding over the first five months is that convergence bidding has had little or no benefit in terms of helping to improve price convergence or the efficiency of day-ahead unit commitment decisions. Meanwhile, convergence bidding has added to energy imbalance offset costs that are ultimately allocated to load-serving entities.”

The DMM states that the ongoing problem of price divergence points toward “fundamental structural aspects of the current market design” as at fault, and that “fundamental modifications of the hour-ahead and real-time market designs” are necessary to improve price convergence and solve the problem. Also noted in the report, real-time imbalance energy offset charges have totaled about $76 million since February 2011, with about $44 million of that caused by convergence bidding. About $18 million of those offset charges were accrued during the second quarter.

In the near-term, the DMM recommends making modeling enhancements and suspending virtual bidding at the inter-ties. The ISO sees a certain bidding strategy at the interties as playing a large role in inflating real-time energy imbalance charges — which are eventually allocated to the ISO’s load-serving entities. Longer-term recommendations include redesigning the real-time market so that resources internal and external to California are all scheduled and settled in the same market. The DMM specifically recommends the ISO consider the real-time method used by New York Independent System Operator for settling intertie schedules.

Additional information may be found in the full report available on the CAISO’s website: http://constellationm.wpengine.com/wp-content/uploads/2011/08/QuarterlyReport_MarketIssues-Performance-August2011-1.pdf