What Are Financial Transmission Rights?
Under SMD, load, or demand, pays for electricity based on the locational marginal price (LMP). When transmission congestion occurs, LMPs will vary throughout the power grid. This price separation may cause the ISO to collect more revenue from demand in congested areas than it will pay to generators supplying electricity to those areas. The excess collection is called "congestion revenue."
To hedge, or protect, against the adverse impacts of having to pay higher LMPs, market participants can bid for the rights to receive a share of the congestion revenue. These rights are called Financial Transmission Rights, or FTRs.
An FTR is a financial instrument that entitles the holder to receive a share of the excess payments collected for congestion costs that arise when the transmission grid is congested in the day-ahead market (FTRs are not offered in the real-time market). This dollar amount can be used to offset congestion costs incurred for higher LMPs that market participants may have to pay, or it can be an additional source of revenue for FTR market speculators.
FTRs can be acquired in three ways:
- FTR Auction - The ISO conducts periodic auctions to allow bidders to acquire and sell monthly and long-term FTRs. All FTRs are initially defined by the bidders in the FTR auction.
- Secondary Market - The FTR secondary market is an ISO-administered bulletin board where existing FTRs are electronically bought or sold on a bilateral basis.
- Unregistered Trades - FTRs can be exchanged bilaterally outside of the ISO-administered process. However, the ISO only compensates FTR holders on record and does not recognize business done in this manner for settlement purposes.
Each FTR is defined in megawatts flowing in one direction between any two locations on the system—between nodes, zones or the hub, in any combination. For each hour in which congestion exists on the transmission system between the two locations as defined by the FTR (from point A to point B, for example), the holder of the FTR is awarded a share of the congestion revenue collected for that hour. If there is no congestion, the congestion component of the LMP will be zero, and no payment will be made to the FTR holder.
An FTR is a benefit when congestion occurs in the same direction as the defined FTR. If the FTR is defined from point A to point B, the congestion component of the LMP at point B must be higher than that at point A for the FTR holder to receive the congestion revenue. An FTR would have the greatest value if it were defined from a negative congestion location (such as an export constrained area where prices are lowest) to a high positive congestion location (such as an import constrained area where prices are highest).
An FTR is a liability when the congestion component of the LMP is in the opposite direction from the defined FTR. If the congestion component of the LMP at point A becomes higher than that at point B, the FTR holder is then obligated to pay the congestion cost. Holding FTRs can be a risk because congestion is not always predictable. An outage or other changes in the power system can cause the congestion component of the LMP to change value.
Because FTRs are financial entitlements, not physical rights, the FTR holder does not have to be involved in the energy market. Any entity that meets certain financial assurance requirements, including non-NEPOOL market participants such as banks or other financial institutions, can register to buy and sell FTRs. FTRs are consistent with the Congestion Revenue Rights outlined in the Federal Energy Regulatory Commission’s SMD NOPR.