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Risk management@Alpiq

Electricity used to be sold two to three years in advance. While this was a good option for mitigating market risks in a relatively stable environment, it became a significant liquidity risk when the market turned volatile 18 months ago. In this interview with our Head Risk Management Manuel Bertschy, we discuss what effect the current market environment is having on hedging strategies in the energy sector and how this relates to risk management.

Manuel Bertschy

Head Risk Management

Manuel, what has changed in risk management?

Well, seen from today’s perspective, the market was more or less stable for more than a decade. Prices oscillated between EUR 30 and EUR 70, which was very low compared to the operating costs of our power plants. The focus was therefore on optimising the hedge to allow stable revenues at the best possible price in order to reduce the market risk – in other words, to avoid the risk that the produced energy would be sold at a price lower than the cost of production. Now, though, we are seeing a totally different range of prices.

In previous years, the focus was never on liquidity. Why did it become so important last year?

It’s relatively simple to explain: The prices shot up to unprecedented levels last year. As a result, the margin calls – in other words, the collaterals or security payments – increased. That’s where liquidity comes into play. The security payments are usually paid in cash and only occasionally via bank guarantees. To make these payments, we needed liquidity. 

What factors do you have to take into account?

Timing is an extremely important factor when it comes to cash flows. There is little purpose in having a high profit in the long run if you lack cash in the short run. From a risk management perspective, it is better to give up some profit margin in the future in order to stay liquid in the short term.

What other risks do you have to manage?

We face a variety of different risks and, generally speaking, the steep rise in prices has increased the magnitude of all of them. Each risk has an impact at different times. A settlement risk, for example, occurs when a counterparty is not able to make payments anymore. This type of risk, like liquidity risk, immediately affects our cash flows. On the other hand, replacement risks, such as those we might face for a transaction or in the event of an unexpected power plant outage, are like market risks in the sense that they have an impact on delivery.

And all risks lower the revenues in the end?

No, that’s not the case. For credit risks e.g. only when a counterparty defaults. Market risks and replacement risks for unexpected power plant outages lead to a decrease in revenues. If these risks materialise, they will lower the cash flows and as such also the EBITDA. Liquidity risks, on the other hand, have a temporary cash flow impact but don’t cause lower revenues.   

How is Alpiq dealing with these different risk challenges?

We learnt a lot when the crisis started to unfold. We then realised what we had to do, improved quickly and in the past months, we’ve been dealing with the different risks very successfully. When the turmoil started, we immediately began drawing up an integrated assessment of all risks. We built up an interactive dashboard that showed all our exposures and enabled us to calculate different stress scenarios. We also have a liquidity cockpit for all planned cash flows. These give us much more transparency within the company and allow us to steer and manage the risks, rather than vice versa.

Is it still the case that electricity producers such as Alpiq sell their electricity 2−3 years in advance?

The situation has changed completely. We had to adjust the hedging strategy to the new environment. The former hedging strategy has been done when prices were very low and for a long period of time even below cost of production. This started to change in 2021. We then began adjusting our hedging in mid-2021 and we’ve now developed a new hedging strategy that optimises our earnings and risks. There is still a significant amount of energy hedged, however, this new hedging strategy allows more flexibility and accounts more effectively for outages, as they tend to be more expensive at today’s higher price levels, and better reflects the variable inflow from our hydro assets, which depend on precipitation from snow and rain.  Last summer’s heatwave led to substantial melt water from the alpine glaciers, and this compensated for the lack of precipitation to a certain extent, but we should not bet on that. Overall, we’ve done our homework and become much more resilient.

How has the job of risk management at Alpiq changed in the past 18 months?

Well, a lot of work went into changing our hedging strategy and I view this very positively. Our top management’s approach to managing the crisis was encouraging and empowering, which led to outstanding commitment and thus also quickly to excellent solutions. Throughout the organisation, we saw the importance of close collaboration for risk management, and this took us to the next level. To answer your initial question, the job has also changed in the sense that risk managers now have to be highly skilled in market and credit risk. It’s no longer a question of being good at one or the other, but both. 

Where does Alpiq stand now in terms of risk management?

At Alpiq, we had the courage to tackle the turbulence on the energy markets in an integrated manner and I’m confident that we now have a system of risk management that meets our needs. It hasn’t been easy, and at times we’ve rode our luck – but thanks to our integrated risk assessment, our risk dashboard and our liquidity cockpit for all cash flows, we now have a much greater capacity to steer the company through turbulence and we’ve boosted our resilience, too. What’s more, we keep improving day by day. 

Thank you, Manuel!