Virtual Trading in Multi-Settlement Electricity Markets

TL;DR

This paper models how virtual trading in multi-settlement electricity markets influences market efficiency, showing it reduces price gaps but does not fully align quantities, with empirical evidence from California and New York.

Contribution

It introduces a supply function equilibrium model to analyze virtual trading effects on market efficiency and provides empirical validation with real market data.

Findings

Virtual trading narrows price gaps between DA and RT markets.

DA-cleared demand remains below true demand despite virtual trading.

Renewable energy suppliers are unaffected by these strategic distortions.

Abstract

In the Day-Ahead (DA) market, suppliers sell and load-serving entities (LSEs) purchase energy commitments, with both sides adjusting for imbalances between contracted and actual deliveries in the Real-Time (RT) market. We develop a supply function equilibrium model to study how virtual trading-speculating on DA-RT price spreads without physical delivery-affects market efficiency. Without virtual trading, LSEs underbid relative to actual demand in the DA market, pushing DA prices below expected RT prices. Virtual trading narrows, and in the limit of large number traders can eliminates, this price gap. However, it does not induce quantity alignment: DA-cleared demand remains below true expected demand, as price alignment makes the LSE indifferent between markets and prompts it to reduce DA bids to avoid over-purchasing. Renewable energy suppliers cannot offset these strategic distortions. We provide empirical support to our main model implications using data from the California and New York Independent System Operators.