Since the most significant of all the risks is indisputably the price risk, much of a supplier’s business involves optimising its energy purchases and the agreements concluded with both the generators from which it buys energy on the wholesale market and the customers to whom it sells electric power, to protect itself against price risk.

From a consumer’s viewpoint, one of the key services offered by a supplier is the possibility of hedging against price risk. Many consumers simply cannot buy their electricity directly on the wholesale market because they cannot afford to run the risk inherent in market price fluctuations (besides, most consumers would find it difficult to deal with all the registration fees and other formalities involved in trading on the wholesale market). To avoid such risks, they will try to negotiate a product with their supplier that allows them to reasonably forecast their energy costs.

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Although there is a wide variety of commercial formulas in place, the most widespread (and simplest) models are as follows:

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1. - Flat rate: This type of contract stipulates a flat rate per kWh used by customers. In this case, the supplier absorbs the full risk associated with uncertainty in the pool price. This system is particularly suited to small-scale agents or for large customers with a very constant level of consumption, which they are essentially unable to change, who want to avoid highly complex rate schemes. This is very common among smaller customers.

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2. - Time-of-day: These contracts group the hours of the day into several different segments, each of which has a different price per kWh. Customers able to change their load profile in line with prices find this kind of contract attractive because they can benefit from its flexibility. In this case, the supplier shoulders price risk, but not quantity risk. The hours of the day must be grouped into segments, each comprising a time frame during which wholesale prices are likely to be similar.

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3. - Pass-through: In this case, the supplier merely charges the customer the wholesale market price for each hour, multiplied by the amount consumed during that hour, plus the access charges stipulated by the regulator. In this case the customer shoulders all the risks, while the supplier merely offers an intermediary service (it represents the consumer on the spot market, deals with billing, handles relations with the distributor and so on). This type of contract may suit very large customers who are well acquainted with how the electricity market works and prefer to handle their energy purchases themselves.

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4. - Contract for differences: This is a standard contract for differences between the end consumer and the retailer, for a predetermined load profile and a strike price, which uses the hourly spot market price as the reference price in the contract. Therefore, if the consumer strictly follows the contracted demand pattern, she is completely hedged and she pays the strike price for the demand. However, any deviations from the contracted load profile will be charged or credited at the current value of the spot market price. This type of contract has the double desirable property of hedging for the totality of the forecast consumer demand and sending the correct real time economic signal to the consumer.

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