Energy Trading and Investing


Energy Trading & Investing: Trading, Risk Management, and Structuring Deals
by Davis Edwards

Call vs. Put Options:

  • Why do energy traders use options?
    • Insurance- options allow you to take on more exposure without taking on a large risk
    • Investing- building a power plant gives the operator the option of burning fuel to produce electricity. The operator will burn fuel when it is profitable. Options are a good way to analyze an investment that involves a decision.
    • Forwards-a trading contract that allows traders to arrange a transaction at a specific time and place in the tufter for a contractually identified price. 
    • Future- a trading contract that allows traders to transact for future delivery but must be exchanged cleared.
  • Only 2 types of options contracts: "calls" and "puts" 
    • Long call option strategy- buy a call option with the expectation that the price of the stock will rise before the expiration date. $40 is the strike price. Your expectation is that it will be beyond $40 before expiration. Two things in an options contract: (1) strike price and (2) expiration date
      • "At the money"- stock is trading at $40, you buy the $40 strike call.
      • "Out of the money"- more bullish. If stock is trading at $30, you buy the $40 strike
      • If the stock goes down, you lose $200 premium for buying the option contract. 
      • Volatility- boosts the value of long options. Higher probability that the option contract will be profitable. 
    • Long put option strategy- you buy a put option with the expectation that the price of the stock will drop below the strike price before the expiration date. This is not shorting, this is leveraging 100 shares of stock. Strike price is the price you will sell shares in the future ($40/share). Your goal now is to buy the shares later on for less than $40. 
      • "Out of the money"- more bearish you are. 
      •  Volatility- boosts the value of long option, because there is a greater probability that the strike price being passed into a profit zone.
  • Leverage- one contract controls about 100 shares of stock. 
  • Options Parity - the option is trading at its purely intrinsic value, there is little time left to expiration. They will act exactly like the stock value. No time decay, no volatility. 
    • Options only ever lose their time value.
  • Options combinations:
    • Long Call + Short Put= Long Forward
    • Short Forward + Long Call = Long Put
    • Long call + Long Put= "Straddle". This will lose money when prices remain constant, but benefits when there is a large move in either direction. 


Wholesale Electricity Markets:

  • Areas with competitive markets include:
    • Regulated utilities who own wires (Eversource in Boston)
    • Generation is independently owned
      • competes in marketplace without central planning
      • market signal indicates when/where to build/ retire
    • Market run by an independent entity without any ownership interest (ISO)
  • Also have vertically integrated utilities
  • The New England market is run by ISO New England (ISO-NE) - CAISO, MISO, ERCOT, PJM, etc. etc.
  • ISO-NE: coal and oil provided 40% in 2000, but in 2016 oil/coal is now 3% and air emissions dropped significantly over the years.
  • 32 years left to decarbonize electricity in Massachusetts per the MA Global Warming Solutions Act, which requires the state to be 25% below the 1990 levels in 2020 and 80% below the 1990 levels in 2050. 
Read a snippet from David W. Edwards website on the basics of options trading & financial markets!

A great introduction to call and put option basics by Option Alpha! 

Listen to the MIT Energy Initiative lecture by Abigail Krich of Boreas Renewables! 

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