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Liquidity in Energy Markets

Liquidity refers to the relative volume and frequency that a trade occurs in a market.

When we talk of liquidity in the energy markets it is usually commenting on a lack of it, or in other words the fact that there are too few generators needing to sell too little energy to too many suppliers requiring too much energy to fulfill the demand of too many customers.

In simple economic theory this is an imbalance between too little supply (generator) and too much demand (customer), the consequence of which is a significant price increase for the purchasing supplier.

What affects the liquidity in the market?

Firstly, a significant proportion of the generation assets in the UK are in the hands of the ‘Big 6’ vertically integrated suppliers. This means that though the headline generation capacity in the UK is sufficient to fulfill the demand requirements, the fact that not all of this supply is available to all parties means that whilst the vertically integrated suppliers feed themselves the wider market can go hungry.

Secondly, is reliability, or the propensity and duration of generation plant failures. In our ageing and creaking network these are commonplace. So when a generator takes some plant off line the supply will decrease but demand will remain the same. Our market is never operating at full generation capacity.

In addition the generators prefer to trade in standard orthodox ‘shapes’ and volumes.

These have grown out of traditionally traded commodity profiles over many years and as a result they make a better ‘fit’ for larger suppliers such as the Big 6. A key element in the reasoning behind this is the compensatory effect that the ‘Big 6’ has in possessing both a large domestic and a non-domestic portfolio.

In contrast, by their nature, smaller suppliers buy lower quantities often in non-standard shapes. This is because they do not have a large domestic portfolio, if they have one at all, to bring the product shape benefits to their portfolio that bigger suppliers naturally have.

Because of this the liquidity of the market is even more constrained for smaller suppliers that larger ones. Therefore where smaller players do not have direct access to generation they are often forced to trade in the market for premium priced non-standard products.

This does not however mean the smaller suppliers will always charge more for their energy than larger ones.

The final energy price is made up of a number of constituent parts of which the raw energy cost is only one, albeit a large one. The smaller suppliers, by virtue of their size and commercial strategy have the benefit of a lower cost footprint and greater operational efficiencies that a large, traditional organisation can often not match. In addition the appetite for innovation amongst smaller suppliers and the search for niche products further balances the potential raw energy cost disadvantage.

Ultimately when choosing a supplier none of the above is visible to us, all we see is a price and a reputation, and it is against that which we make our purchasing decision. However there is significantly more to it and this helps to underline why it is that there is so much more variability in prices in the non domestic market than is experienced in the domestic market. And why accessing the market regularly and assessing all the available options will always deliver a benefit to the business customer.

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