Efficient Use of Collateral in OTC Energy Hedging

The Situation

Management at a distressed merchant power generator was worried that the company did not have enough funds on hand to cover margin/collateral call on their gas and power asset hedge portfolios. The power and gas traders were also significantly constrained by the company's poor credit quality in conducting further OTC hedging in the marketplace.

NERA's Role

NERA replicated the company's portfolio and contractual collateral terms and conditions. NERA also constructed simulations of market movements and the likely collateral required to support the current hedges without defaulting. In addition, NERA simulated collateral requirements under various alternative portfolio structures and potential hedging strategies that would minimize the amount of collateral required without sacrificing hedge effectiveness.

The Result

NERA advised management on the magnitude of the risk associated with potential collateral shifts in the current hedge portfolio. NERA also provided management with the best available hedging alternatives for minimizing exposure to large collateral calls while maintaining a well hedged generation portfolio.