Modeling Locational Price Differences

In this chapter we will address the question of how market participants can quantify and hedge locational price risk. The work draws on results from the finance, economics and engineering community, attempting to find a middle ground that allows us to solve the unique problems facing the electricity industry. This includes developing methods for valuing newly emerging transmission dependent derivative contracts. Furthermore we examine the relationship of these new contracts with existing forward and option contracts on locational spot prices. We extend this analysis to include the valuation of investment opportunities in transmission assets, thus allowing a for-profit transmission provider to arrive at a market based valuation of a potential investment, based on observed forward and derivative prices.