Flexibility Options: A Proposed Product for Managing Imbalance Risk

TL;DR

This paper introduces 'Flexibility Options', a new market product designed to efficiently hedge imbalance risks in electricity markets with variable renewable energy, by co-optimizing real-time supply and demand within the day-ahead scheduling framework.

Contribution

It proposes a novel product that endogenizes flexibility demand and co-optimizes it with energy supply, addressing limitations of existing reserve procurement methods.

Findings

Addresses imbalance hedging cost-effectively

Provides a less intermittent revenue stream for flexible producers

Ensures revenue neutrality for system operators

Abstract

The presence of variable renewable energy resources with uncertain outputs in day-ahead electricity markets results in additional balancing needs in real-time. Addressing those needs cost-effectively and reliably within a competitive market with unbundled products is challenging as both the demand for and the availability of flexibility depends on day-ahead energy schedules. Existing approaches for reserve procurement usually rely either on oversimplified demand curves that do not consider how system conditions that particular day affect the value of flexibility, or on bilateral trading of hedging instruments that are not co-optimized with day-ahead schedules. This article proposes a new product, `Flexibility Options', to address these two limitations. The demand for this product is endogenously determined in the day-ahead market and it is met cost-effectively by considering real-time supply curves for product providers, which are co-optimized with the energy supply. As we illustrate with numerical examples and mathematical analysis, the product addresses the hedging needs of participants with imbalances cost-effectively, provides a less intermittent revenue stream for participants with flexible outputs, promotes value-driven pricing of flexibility, and ensures that the system operator is revenue-neutral. This article provides a comprehensive design that can be further tested and applied in large-scale systems.