PJM oversees and facilitates millions of dollars changing hands every day…so what happens if a member goes bankrupt? As a not-for-profit organization, PJM must socialize any financial loss incurred to its members. Therefore, ensuring a conservative credit policy is in place is extremely important to the market, which results in many members having onerous collateral requirements as a byproduct of their operations. This is why in the November 2017 Credit Subcommittee meeting, Exelon brought forward the recommendation that PJM should accept surety bonds as collateral for the first time. Their reasoning was simple: with the acceptance of surety bonds, members can save on collateral costs, improve their liquidity profiles, and more strategically manage their collateral portfolios to better align with their needs. Many members were intrigued right away, but others had doubts.
So why does this matter? Let’s back up for a minute. Most people in the US plug their iPhone in to charge or flip a light switch and expect their phone to start charging or the lights to turn on. Many take this privilege for granted with no idea what goes on “behind the scenes” or the amount of work it takes to keep their lights on. Everyone knows who to call when they have power issues; usually their local power utility. But what isn’t always realized is that, in many parts of the country, behind the utilities sit the Regional Transmission Operator (RTO) or Independent System Operator (ISO).
RTO’s and ISO’s are independent organizations designed and enacted by the Federal Energy Regulatory Commission (FERC) to monitor the deregulated electricity markets. Of the six RTO’s or ISO’s throughout the United States, PJM Interconnection/Settlement (PJM) is the largest. Their role is to monitor and coordinate the movement of electricity in all or parts of 13 states and the District of Columbia, which in totality can be referred to as PJM’s electrical grid. PJM’s electrical grid serves ~21% of the United States GDP. PJM is responsible for ensuring their electric grid is reliable and resilient, so that residents and businesses in their territory have access to power when it’s needed. This means most companies who operate as a part of the electricity value chain in one of PJM’s territories are subject to their rules and regulations outlined in their Open Access Transmission Tariff. PJM acts as an exchange, regulator, and director for the “deregulated” power market within their territory, and answers directly to FERC.
Any change in PJM’s rules can have a lasting impact on millions. Therefore, PJM is structured as a membership organization, which means it provides services on a profit neutral basis to customers that are members of PJM.1 As a result, PJM’s rules and regulations are managed through a collaborative stakeholder process, where members are ultimately tasked with determining what policy serves the market best. New policy or changes to existing policy must be brought forward and voted on by members through a hierarchy of committees and subcommittees ranging in seniority. Naturally, a recommendation will typically evolve through this stakeholder process as other member input is considered. New recommendations start at the subcommittee level and must navigate through four higher-up PJM committees, before ultimate sign-off is received by PJM’s Board of Directors and FERC.
Back to Exelon’s November 2017 recommendation. The initiative faced an uphill battle for a number of reasons, but one particular challenge came to light out of the gate: the GreenHat Default. GreenHat Energy, LLC was a member primarily focused on trading financial products that PJM administers. Between November 2017 and June 2018, PJM stakeholders learned that GreenHat had found and exploited a loophole in the credit policy. Over time, GreenHat amassed a massive position that ended up losing them $160 million dollars, without being required to post more than $100,000 in collateral based on existing PJM rules. A looming $160M loss resulting from a loophole in the credit policy created anarchy throughout PJM, but especially within the Credit Subcommittee.
Many initiatives, including accepting surety bonds, were influenced significantly by the fear that GreenHat had struck into members. The surety recommendation was forced to evolve into a more restrictive package than what was originally planned. Exelon and other stakeholders banded together and persevered, getting the surety initiative to one of the final senior committees by December 2018. Two packages were presented:
a) Surety bonds would be accepted with a $10 million single bond limit per market participant per issuer and a $50 million aggregate limit per issuer.
b) Surety bonds would be accepted with a $20 million single bond limit per market participant per issuer and a $100 million aggregate limit per issuer.
Neither passed. GreenHat reared its head again and the vote was deferred until a third-party consultancy report on the GreenHat event was released. Four months later, the surety initiative came back up for a vote in April 2019, and guess what, GreenHat got in the way yet again. This time the vote was deferred until a new PJM Chief Financial Officer and Chief Risk Officer were hired. Over a year later, in June 2020, finally Package A was approved by the final PJM committees, prompting PJM’s preparation of the required FERC approval filings.
Historically, FERC’s approval for initiatives that don’t have wide spread market reform implications, such as surety bond acceptance, has been fairly straight forward. This was not the case for the surety initiative. On August 28th, 2020, FERC met the PJM approval filing with a five page deficiency letter claiming that PJM’s research was incomplete. FERC directed PJM to prepare a thorough response to their letter, addressing 13 detailed questions, within thirty days of receiving the deficiency letter – a near impossible task. Rather than rushing a response and risking the whole submission getting declined, PJM and stakeholders decided to withdrawal the FERC submission altogether, citing an intent to resubmit once the answers were appropriately articulated. Yet again, the waiting game ensued.
After eight long months of silence and very limited publicity, it was made clear that PJM had resubmitted to FERC. On April 29th, 2021, a FERC order was filed approving the surety initiative effective May 1st, 2021. After nearly three and half years, or 1,267 days, surety bonds are now finally accepted by PJM.
Our team has been intimately involved in this long process and we would be happy to address any questions you might have about PJM Surety Bonds.