Archive - Settlement and prudential security review

In December 2013, we gazetted amendments to the Electricity Industry Participation Code 2010 (Code) provisions relating to settlement and prudential security arrangements. The Code amendments come into force on 24 March 2015. The amendments include a new part 14 covering settlement arrangements, and a new part 14A covering prudential security arrangements.

The new arrangements will:

• promote retail competition and reduce costs for retailers
• reduce costs for direct purchasers (a small number of large industrial electricity users)
• improve the efficiency and effectiveness of settlement and prudential security arrangements

Refer to the Future Code page for the Code provisions as they will be after coming into force on 24 March 2015.

Future Code

The key changes coming into effect from 24 March 2015 are:

Settlement arrangements

• Monthly settlement will occur on a "partial net basis" rather than on a "gross basis". The clearing manager will net a participant's offsetting amounts provided it retains sufficient funds to manage the largest single credit default.
• Inward payments to the clearing manager on settlement day must be made by 1300 hours, rather than 1400 hours. Outward payments will be made by 1600 hours rather than 1630 hours.
• A participant may elect to prepay a settlement amount, reducing the participant's prudential security requirement. A participant may also elect to pay from its prudential cash deposit provided that sufficient prudential cash is retained.
• The legal structure of hedge settlement agreements (HSAs) will be changed so a party owing funds under an HSA is required to pay even if the HSA counterparty is in default. Provisions for the cancellation of HSAs will be clarified.
• Each participant will have a registered exit period which represents the time it will take to exit that participant from the market if it defaults. If a direct purchaser defaults, the Authority can require the connecting distributor or grid owner to disconnect the purchaser after the expiry of its registered exit period.

Prudential security arrangements

• The clearing manager will assess the required prudential security level every business day instead of at least once per week. Every business day the clearing manager will also project the required prudential security level for the next three business days. The projections act as a cap, giving the participant three business days' notice of the highest level of prudential security that could be required.
• The general prudential requirement will be the sum of (1) outstandings and (2) an exit period prudential margin. Outstandings are the net amounts already accrued but not paid up to the end of the previous day. The exit period prudential margin is an estimate of the net amount the participant could accrue over the exit period. The clearing manager will develop a methodology for these calculations, consult on it, and have it approved by the Authority.
• The exit period prudential margin will be calculated as the product of prudential prices and quantities projected over the exit period. The prudential price will be based on the sum of (1) a futures-based forward price for the relevant quarter (in $/MWh), and (2) an adder (in $/MWh). The forward price will be determined by the clearing manager two months in advance of each quarter. The adder will be determined annually for each quarter. The adder will be designed to be sufficient to cover the clearing manager's exposure to a model participant 75 percent of the time. It is expected that the adder would be around $10 to $20/MWh.
• If cash is used as prudential security, it will need to be accompanied by a security agreement providing a first ranking registered security interest in favour of the clearing manager.

The Authority is working closely with the clearing manager to implement the new arrangements.

The Authority acknowledges the role of the Wholesale Advisory Group in developing a package of recommendations to the Authority on settlement and prudential security arrangements. The Code amendments are based on the recommendations made by the Wholesale Advisory Group in 2012.

The Authority is working closely with the clearing manager to implement the new arrangements. The clearing manager is expected to publish the following methodologies for consultation during 2014:

• the methodology for determining the settlement retention amount under new clause 14.21
• the methodology for determining the forward estimate of the minimum amount for which security will be required to be provided by a participant under new clause 14A.5
• the methodology for determining the general prudential requirement under clause 8 of the new Schedule 14A.1

The clearing manager will shortly commence a project to make changes to its settlement and prudential security systems to enable it to meet its obligations under the new arrangements from 24 March 2015.