Utility Week

30 | JANUARY 2022 | UTILITY WEEK Energy reset Analysis If everything is regulated, where's the competition? From naming and shaming suppliers to introducing a risk index, Utility Week asks, what next for energy hedging? A n unprecedented number of supplier failures has further highlighted con- cerns over poor hedging strategies and risky business practices. There is now a general consensus that rule changes are sorely needed. Yet there are fears the indus- try "might as well be nationalised" if man- dated hedging becomes a requirement. "With 27 retailers having exited the mar- ket so far this year, most recognise there is probably a need for a greater degree of oversight to make sure participants are well prepared for external shocks. I think there is a general consensus that Ofgem needs to be doing more in that space," Dan Alchin, Energy UK's deputy director of retail, tells Utility Week. These "external shocks" Alchin refers to are the soaring wholesale costs seen over recent months, the impact of which has been further compounded by the failure by some to properly hedge the energy they supply. A damning report by the administrators of one failed retailer, Avro Energy, revealed the supplier of 580,000 customers had "no external funding or security over its assets" and relied solely on working capital. It fur- ther confirmed that Avro's "lack of any hedging instrument in respect of its energy purchases" le‰ it at the mercy of soaring wholesale prices. Bulb, which recently became the first energy supplier to enter the special admin- istration regime, is another retailer that has been known to hedge short. Company founder and chief executive Hayden Wood previously revealed that Bulb purchased energy just three months in advance. For its part, Ofgem has published an "action plan" in which it outlines proposals to increase the financial resilience of suppli- ers. This includes ensuring robust minimum standards, meaning suppliers need to be adequately hedged or hold sufficient capital to manage a wide range of market scenarios. "Within this, suppliers are responsible for their own commercial strategy but must have a robust management control framework in place to support it and manage their risks," the regulator said. While it is argued there is a case for some regulatory intervention, several industry experts tell Utility Week they are concerned about the impact mandating hedging posi- tions will have on supplier competitiveness. As Alchin observes: "It's important we remember that hedging is one of those areas where you can compete as a supplier, through different strategies, and so long as a supplier is in a position to support that strat- egy, you wouldn't want to regulate out that ability to compete." He is not alone in sharing these concerns. Tom Eckersley is former head of hedge modelling and operations at Npower and served as head of hedging at the recently failed disruptor brand People's Energy. He believes that sharing more information with the regulator, perhaps through frequent Requests for Information (RFIs), could be a way of creating a market more resilient to shocks. There is precedent for such a move and Eckersley cites the fact the Competition & Markets Authority (CMA) asked suppliers for a "whole host of data" in relation to hedg- ing strategies prior to the introduction of the price cap. Similarly, Ofgem has in the past inter- mittently issued RFIs on hedging and in its newly published action plan it reveals it will, where necessary, expand the scope of report- ing from suppliers, which will likely include information on their approaches to hedging. "It would highlight those suppliers that are doing something that is materially differ- ent and therefore are going to be incurring a commodity cost that is materially different from what the cap implies … If nothing else, it's going to point to suppliers that are at risk by virtue of the way they are buying com- modity," he explains. However, like Alchin, he says suppliers alone should be responsible for the amount they hedge. Eckersley believes there is a question over what the role of Ofgem is in the future and whether it should have the ability to exert pressure on those suppliers not hedging according to the cap. "That to me seems like a bit of an over- step. Ultimately these are commercial com- panies and it is a commercial decision. While it's an incredibly sensible one in my mind, to match the cap, it is ultimately up to the sup- plier," he says. He adds: "If anything, publishing that information is like an early warning system. It's an indicator. But what can the regulator then do with that? Mandate them to behave differently? I don't think so because then they might as well be nationalised." Despite these worries over competition, there are some who warn that a lack of regu- latory controls over hedging results in some companies being more willing to take risks in the sector, leaving the rest of the market to pick up the pieces. Andrew Mack, chief executive of Octopus Energy Germany, has recently written his thoughts on hedging in a blog and believes there should be rule changes to make run- ning a risky business more difficult. Sharing his views on his former patch, Mack, who previously served as head of strategy at Ovo Energy, says: "You could argue that suppliers should have to prove an appropriate level of hedging. "I have seen this before in Germany, where suppliers deliberately don't hedge and just place bets on energy prices falling. If prices do fall, unhedged suppliers win but if they rise and the business goes bust it will get picked up by the supplier of last resort in the UK." The Supplier of Last Resort (SoLR) pro- cess, he says, may encourage "bad behav- iour" in the market by those running the businesses. Mack adds: "They have lost a business, but they are not really responsible for what they have done. I don't think the answer is to make the SoLR process harder, but it should be harder to intentionally run a risky business and/or to take advantage of large

• Cover