Hungarian imbalance: wrong incentives causing extreme prices

Since the beginning of the Energy Crisis, specifically from Q4 2022, the Hungarian Imbalance Market has seen some interesting and extreme developments.

This has created challenges for MAVIR (the Transmission System Operator) to maintain grid stability using traditional flexibility providers from natural gas units.

However, this has also brought opportunities for intraday power traders, and Virtual Power Plant operators. These challenges have been made even harder to solve by the huge increase in Solar Photovoltaic capacity in Hungary since 2018.

The Feed-in-Tariff scheme that made this happen has positioned Hungary as a leader in the region when it comes to renewable energy, but the negative prices and the grid challenges also posed by this are an unwanted consequence.

These are best illustrated in some extreme System Balancing Anomalies. The system was long (need for downward balancing) in 80% of quarter hour settlement periods in  seven consecutive months from March 2024 in a trend that started in Q4 2022.

This was mostly due to the removal of a price cap for upward aFRR/mFRR energy, while a price limit on downward balancing actions (-50.000 HUF/MWh - C. -130 EUR/MWh) remained in place.

As wholesale power prices trended lower in European energy markets through 2023, instances of negative pricing continued to increase, creating a new problem. The increased proliferation of renewable electricity generation across both Europe and Hungary, meant that conventional unit operators were pushed out of the merit order at the day ahead stage.

Consequently, Q2 2023 and Q3 2023 saw these units forced to operate (mainly) on the reserve market instead, meaning that the levels of available spinning reserves continually declined.

Added to that, due to the fact the system was almost constantly long, the upward activation periods and volumes also started shrinking - adding extra cost and risk for the ramp ups. On the ramp down side, the options were also quite limited due to the price cap on downward energy fees and lack of spinning reserves.

The graph above shows the decreasing volume of upward activations, with increasing share of International Grid Control Centre (IGCC) activation – further limiting the domestic reserve participant's revenue.

The graph below also clearly shows how downward volumes increased and even created extreme situations where the TSO needed more than 1000 MW of downward balancing actions.

This created an environment where bidders on the upward balancing market started to submit higher and higher bids. This led to extremely high imbalance prices when the system was short – even though that was still quite rare.

Imbalance prices were fairly moderate when the system was long, mostly because of the price cap, but also due to an increasing number of PV asset optimisers entering the reserve market.

Even as Day-Ahead prices started reducing, imbalance prices when the system was short continued to hit extreme levels. Imbalance prices when the system was long stayed moderate compared to some Western European Markets, even though the monthly average went into the negative territory in Q2 and Q3 2023.

Please note the Hungarian imbalance formula is practically the weighted avg. cost of energy fee activations (and avoided cost of act. for IGCC) – only energy fee is the input, not the capacity fee and it is not a marginal price system.

Understandably, this imbalance price scenario then incentivised portfolio managers and traders to try and keep their positions long. This would avoid the risk of being caught short on the imbalance market when the system was also short.

Hungarian Solar PV Capacity Boom

Total installed solar capacity in Hungary is currently above 5700 MW. The demand peak in the country was around 7000 MW in January. 2341 MW of that is household solar (which of course decreases demand in practice) creating additional problems around forecasting the system direction.

The Hungarian Feed-in Tariff and unintended consequences:

The Hungarian Feed-in-Tariff (FiT) System fixes the energy price around 118 EUR/MWh for the FiT asset owners if they generate power, regardless of the actual HUPX DAM hourly price for the same period.

More over, the imbalance cost for this FiT Balancing Group is subsidised. However, asset optimisers are also incentivised to avoid short positions on the imbalance market - the same as any other market participant.

Most of the challenges and problems of the Hungarian System described above can be solved with an efficient and liquid Intraday Market like HUPX - provided that the price incentives are correct.

As of Q3 2023, it became obvious that something had to be changed on a regulatory level to encourage competition on energy fee tenders for upward activation. It is also required to protect industrial end customers who bear the cost of imbalance prices.

Two significant changes followed:

Firstly, the Energy Regulator (Hungarian Energy and Public Utility Regulatory Authority) announced a price cap for upward aFRR/mFRR energy fee bids.

The price is practically a clean-spark-spread based solution, which makes it far more resilient to market shocks than the previous fixed price cap. It also only applies if the market is considered 'concentrated' by the HHI index, which is measured quarter hourly.

Secondly, MAVIR introduced an incremental bidding option for the energy fee tenders.

This means that if a unit operator wanted to submit bids for a 200 MW unit, they could bid 200 different prices for each 1 MW. The same goes for Virtual Power Plant operators.

In the previous system, there were only block or unit based options. In the previous example, one price bid would be accepted for the whole 200 MW energy fee for up or downward activation.

The results of this new system are visible on the charts above. Price caps seem to have worked, along with the increased competition thanks to the more efficient tender procedure. The shares of long quarter hours also reduced, even if this is not yet balanced back close to the desired 50-50%.

The heating season effect should not be neglected either. Currently, gas generation units can sell the steam (’heat’) from their activities, creating far better cost structures to compete on the balancing market as well.

Renewable generation is of course weaker during heating season too, leading to higher DA prices and greater availability of spinning reserves.

However, as soon as February there were weekends where some gas units ramped down, or even stopped for 2-3 days. Around these periods the system was vulnerable again - which resulted in high imbalance prices as shown in the screenshot of the Montel Analytics EnAppSys platform below:

The question remains, what will happen when the winter is over? Will gas units still be competing with even higher installed capacity of solar all across Europe? Will this then lead to negative prices becoming even more common than last year?

What we can conclude is that the price cap solved part of the problem, but failed to address the missing price incentive around the long system environment.

Until traders and asset optimisers are equally incentivised on both sides of the imbalance market, they will go for the smaller risk and favourable risk/reward.

This fact, made worse by the 2684 MW of FiT producers who are eager to get a guaranteed 118 EUR/MWh for each MWh produced, will continue to cause problems for Hungarian imbalance pricing.

Author's note:

Just as I was making the final corrections to this blogpost, MAVIR held a Forum on the 20.03.2024. This is both a regular way of communicating recent analyses around the market ana a way to discuss planned changes by the Hungarian TSO. It was announced that the Hungarian imbalance price formula could change from 01.01.2025:

• First of all this is currently a proposed modification by MAVIR to the Energy Regulator (Hungarian Energy and Public Utility Regulatory Authority) which comes into effect if the Regulator approves

• Proposed go-live is 01.01.2025

• MAVIR will prepare some calculation examples and draft of the rules changes

Key points of the announced modifications:

• The HUPX DAM MIN/MAX barrier in the formula will be updated with price elements from the HUPX IDA and the Intraday continuous trading market prices. The concept suggests it should be never cheaper to ‘buy’ power from the imbalance market compared to the wholesale market. In the same way, it should always be worse to ‘sell’ into imbalance markets compared to what was available at any time on the HUPX market.

• In the continuous market they will look at the weighted average of the whole trading period and last 3 hours for the underlying hour and quarter hour.

• Introduction of a ‘scarcity’ element in the price formula: if the system balancing requires higher activation volumes than a preset threshold (MW to be disclosed later, but it could be different per direction)

• This scarcity element will only be applied on the balancing circles that were ‘causing’ the imbalance, so practically has the same imbalance position as the system as a whole.

• It is also worth mentioning the huge spread between the dual prices during scarcity periods (like in the Netherlands) are not likely to appear, as only the activation costs of the eventual system direction feed into the imbalance formula in Hungary. Moreover, the imbalance price will remain weighted average based and not change to a marginal price system.

• My very brief opinion is that seems like a step in the right direction, as changes are needed as outlined above.

• On the other hand, I think the practicalities of introducing dual pricing on those quarter-hours where system scarcity happens takes out an important incentive – those balancing circles that are helping the system will have one less reason to do so - and that could also hinder liquidity in a market where further liquidity could be a very important pillar of renewable integration.