European Energy Market Enforcement Cases – A Summer of Tough Love…
August 8, 2023 | By Shane Henley
July 2023 saw the announcement of four significant enforcement actions in European power and gas markets across multiple regulatory jurisdictions including Hungary, Italy, Spain and the UK. Each of these cases is decidedly “non-standard” when viewed through a market abuse lens. But what can they tell us, if anything, about the direction of energy market enforcement and what should Compliance Officers consider in terms of detecting and preventing such behaviours? Read on to find out..
Two of the four cases are for alleged gas market manipulation under Article 5 of REMIT in the Hungarian and Italian gas markets respectively, with the Italian case still to reach conclusion. The third and fourth cases involve bidding around generation assets in the Spanish and UK/GB electricity markets – neither case references REMIT but instead local electricity market laws and market rules. Despite a significant fine running into the millions, the GB case does not mention market abuse at all, but rather a breach of generation licence conditions explicitly playing down any suggestion of intent. All four cases were initiated by the National Regulatory Authorities (NRA) in their respective countries. We take a brief look at each case in further detail below.
Hungarian Gas Capacity Markets – REMIT fine
The Hungarian NRA (MEKH) ordered (see here) a Croatian energy firm to pay approximately EUR1.4million for allegedly abusing the Hungarian gas transportation capacity market in violation of Article 5 of REMIT. The abusive activity, which took place in 2022, relates to the capacity auction for the Hungarian-Austrian interconnection point which, due to its structure, involves multiple bidding rounds in an “ascending clock” auction format.
The firm was accused of knowingly exercising market power by submitting bids for a significant portion of the auction volume, then withdrawing from the auction in the final rounds of bidding thereby sending false or misleading signals to the market. The enforcement order points out that roughly one third of the way through the 36 bidding rounds, the auctions would likely have been undersubscribed were it not for the firm’s excessive bidding volumes. In their view, the lower demand signalled to other participants would likely also have resulted in lower prices in subsequent bidding rounds.
The firm involved was not able to prove to MEKH that it had a legitimate commercial interest in its bidding strategy and the Regulator did not identify any Accepted Market Practices from any relevant agency that might have mitigated this pattern of behaviour.
What are the main takeaways from this case? The MEKH order provides a commendable level of detail on how the regulator reached its decision and anyone interested in the minutia will likely find a lot of useful insights from reading the order in its entirety. At a high level however, the fact that auction behaviour was scrutinised and ultimately penalised in this way should concern many firms active in auction markets. While this case relates to the gas market, many organisations participating in the power market auctions are increasingly seeing the need for more robust internal oversight. A key challenge however is how firms should go about effectively monitoring auction behaviour, particularly given the wide range of auction types and the specificities of individual auction rules. The lack of market data relating to the bidding of other market participants in many markets can also reduce the number of surveillance approaches available. Despite this, ACER has publicly stated in the past that a material proportion of their market surveillance activity is dedicated to auction surveillance. Available evidence suggests that auctions will be an area of increased focus for European energy firms coming years – how the industry’s surveillance technology vendors respond to the challenge remains to be seen.
Italian Gas Storage Cross-Market – REMIT Investigation
The Italian NRA (ARERA) announced (see here) an investigation into the alleged abuse of the Italian gas market under Article 5 of REMIT by a Swiss-based energy trading firm. The firm is accused specifically of employing fictitious devices…giving false and misleading signals to the market per Article 2(2)(a)(iii) of REMIT. The case involves suspicious combinations of physical gas storage nominations activity alongside other “on market” activities.
GME, the Italian energy exchange, notified ARERA of suspicious market activity resulting in significant imbalances in the gas system requiring the intervention of the market operator. The imbalances were apparently caused by the firm renominating significant gas storage volumes to allegedly correct a previous nomination error. The intervention evidently drove an increase in the gas price which, according to the regulator, benefited a related position held by the firm.
It remains to be seen if the investigation, which should be concluded by the end of 2023, will result in a successful prosecution. If so, it will make for an interesting and complex case study for compliance monitoring.
What are the takeaways from this case? It is probably premature to draw any final conclusions until the full investigation is completed, but based on the ARERA publication the case raises interesting connections between physical gas market operations and market trading activity. Most would agree that systematic surveillance of the relationship between such market activities is challenging. Assessing the impact of a firm’s nominations activity on the market price then linking that to related market trading activity will represent an edge case for many surveillance systems in the market, compounded by the ever-present data challenges. This will undoubtedly be a case worth revisiting if the final determination concludes that market abuse indeed occurred. Even if it does not result in a successful enforcement action, Compliance Managers should take note of the increasingly complex relationships being drawn by regulators between disparate markets and products and consider what this means from a surveillance perspective.
Spanish Power Generation – Fine Under Spain’s Electricity Law
The Spanish NRA (CNMC) ordered (see here) a Spanish utility to pay a EUR6 million fine along with a further EUR35.5 million in compensation to the market for the violation of local Spanish Electricity Sector laws (see the full order here). The case relates to the firm’s bidding behaviour in Spain’s electricity balancing market, specifically within the Technical Restrictions market which is a locational pay-as-bid market used to manage constraints in the grid. In this market participating generators, mostly gas and coal fired, can bid to provide additional generation as well as be instructed to curtail generation to stabilise the grid. The Spanish grid is racked by significant transmission constraints partly due to exceptionally high levels of intermittent renewable generation such as wind and solar.
The CNMC charges revolve around two specific claims made by the regulator – the first is that the firm made bids at excessive prices in the Technical Restrictions market. The second, that the prices bid by the firm were unjustifiably out of line with bids made outside of the Technical Restrictions market – specifically with reference to the Day Ahead market. The gas-fired plant to which this case relates is located in a bidding zone that experiences significant ongoing congestion requiring frequent active scheduling by the system operator to manage.
It is perhaps surprising that the CNMC makes no attempt to prosecute the case under REMIT. In fact, the accused firm references the lack of alignment to REMIT in its defence, claiming that the CNMC’s charges do not meet the requirements of wholesale electricity market manipulation. In its forceful defence, the firm also highlighted a number of perceived flaws in both CNMC’s assumptions applied in the case, as well as its conclusions including the very notion of “excessive price” claiming that it clashes with prior interpretations of this concept.
What are the takeaways from this case? As with the Hungarian case discussed above, the CNMC provides a detailed breakdown (see here) of the case details (other NRA’s, please take note!) which should interest any firm with generation in the Spanish power market. The Technical Restrictions market in Spain is funded by the Spanish consumer making it an area ripe for regulatory scrutiny. This, combined with the exacerbated grid congestion issues that beset the Spanish market, might tempt one to argue that this case is unique to this market. While this might be partly true, behaviour in balancing markets is an area that has seen historical enforcement actions and should be considered from a monitoring perspective. But how? Again, access to data is often limited and most surveillance solutions do not natively address balancing market activities. With increasing intermittency across European power markets, necessitating increased balancing market interventions, it is likely that this is an area of activity that will receive increased scrutiny in coming years – effective tools will be needed to monitor it.
UK Power Generation – Fine for Generation Licence Breach
The final case relates to a penalty notice (see here) issued by Ofgem, the NRA for Great Britain (GB), fining a UK-based utility GBP9,78 million. The penalty notice describes the transgressions as a breach of the firm’s Electricity Generation Licence and does not mention or allude to abusive behaviour including any breach of the UK REMIT regulation. The case is still relevant however as it relates to bidding behaviour in the GB balancing market which has been elemental in historical enforcement cases.
Like the Spanish case, the alleged activity occurred during a transmission constrained period where the firm is alleged to have bid excessively high prices into the balancing market for its pumped storage generation unit located in Northern Scotland. According to Ofgem, the firm set its bids in line with what it believed was “market practice” for other selected generation assets in the region that were regularly bid down due to grid constraints, rather than taking into account the “costs and benefits” of being bid down, and bidding accordingly. Ofgem deemed that this resulted in higher balancing costs which were ultimately passed on to the consumer.
Interestingly, in assessing whether the firm had unduly profited from this bidding strategy, Ofgem compared the outturn profits for the pumped storage facility to a number of tenuous benchmarks including the firm’s revenue, historic profit levels, the profit earned on bids for other units operated by the same group. They even went as far as quoting the firm’s annual financial report which claimed that the generation unit had “achieved exceptional performance” during the period of concern – evidently contributing to Ofgem’s assessment of unjustified gains.
Striking an uncharacteristically benevolent tone, Ofgem reduced the fine downward from GBP11,58million and commented that it “has not seen any evidence which suggests that the breach was deliberate”.
What are the takeaways from this case? The case bears many similarities to an Ofgem enforcement action from the same region earlier this year (see here). Given the large fines, it is clear that balancing market activity is an area of focus for Ofgem even though they do not interpret this behaviour as market abuse. It should also be acknowledged that key behaviours central to other generation focussed enforcement actions (see here, here and here) that were deemed abusive seem absent in this case. This includes, for example, submitting false or exaggerated dynamic plant parameters and plant capabilities to the system operator. These behaviours do however fall within a common domain which should ideally be approached collectively from a surveillance perspective, perhaps starting at the Day Ahead stage through to the balancing market. Naturally this is easier said than done, particularly with most standard monitoring capabilities available at present. This is likely to be a growing area of focus in the coming years where a systemised approach to identifying ex-post outliers works alongside ex-ante controls around auction submissions, parameter submissions and bidding in the balancing mechanism.
European energy traders have become progressively better equipped in recent years in identifying “standard” abusive behaviour in continuously traded markets such as ICE, EEX and EPEX Spot. It has become increasingly evident however that many enforcement cases are more nuanced, and often fit less neatly into traditional abusive patterns like Spoofing and Wash Trading – particularly where auctions, physical assets, capacity and associated bidding are concerned. Do the four cases discussed above represent a trend toward European regulators gaining confidence in identifying and pursuing more complex cases not exclusively involving trade and order behaviour? And how will the market respond in developing the capabilities to detect suspicious behaviour for this paradigm? Time will tell.