Is the disparity in cost of fuel and cost of utilities due to forwards pricing?

October 1, 2008 by
Filed under: Archives 

Written by Ng E-Jay
01 October 2008

Some readers have made comments on the defects of using the forwards curve of crude oil contracts as an input factor for the price of utilities. Currently, the price of electricity is in part determined by the price of crude oil futures 3 months away.

I have also wondered if the forwards curve could explain why the price of physical crude oil declined by well over 20% in the past 3 months (even taking into account changes in USD/SGD exchange rate), but starting today, the price of electricity will go up by 21%.

The forwards curve for crude oil contracts is currently neither in backwardation, nor in contango when measured 3 months out, and only in slight contango (around 2-3%) 6 months out. Backwardation refers to the condition in which the prices for futures are lower than spot (physical) prices, and contango is the reverse phenomenon.

The price of utilities (amongst other essential products and services) in Singapore has virtually been a one-way street for the past couple of years, despite the fact that prices of raw materials have actually fluctuated greatly (it has certainly NOT been an uninterrupted bull market — there have been substantial corrections along the way).

If indeed utilities prices are very much dependent on the price of raw materials 3 months ago (as would be the case if Singapore Power pegged the utilities price to the price of the forwards contracts they purchased 3 months ago), then we should expect a substantial decline in the price of utilities 3 months from now.

I reiterate the need for Singapore Power to be more transparent as to how utilities prices are determined, and what safeguards are in place to protect consumers from exploitation.

Singapore Power Limited made a profit $1.086 billion in 2007, according to their website. The increase in the price of utilities in the face of such a record profit is wholly unjustified.

Comments

Tell me what you're thinking...
and oh, if you want a pic to show with your comment, go get a gravatar!