Market Credit Risk Standard Key components Cheryl Yager August 20, 2008

Overview  Why have a Market Credit Risk Standard?  Impact of an entity default vs impact of a market default  Where are we in the process?  What is included in the draft Standard?  Major headings in the draft Standard  Big picture goals / guiding principals  Discussion of specific components in draft Standard  Schedule

Why have a Market Credit Risk Standard?  The Board of Directors requested it  Provides a common basis for understanding risk in the market and how that risk will be managed  For existing market participants, potential new entrants, PUCT, and others  Establishes good risk management practice  It is good risk management practice to set standards around key risks and measure, monitor and manage these risks  Similar to what almost all larger corporate entities have  Reduces the risk of surprises and increases the ability to address risks in advance  Ensures that mitigation plans are sufficient to protect the market in the event of an “extremely adverse scenario” even when the probability of that event occurring is small, when the impacts of the event occurring are significantly negative  Demonstrates ability to self-monitor  When done effectively, the market not only protects itself, but also demonstrates its ability to self-monitor to external stakeholders

Impact of an entity default vs impact of a market default  The market should be able to withstand “stress or extremely adverse scenarios”, even when the probability of those events occurring is small since the impact of such events can be significantly negative  If an entity defaults  Liquidates (goes out of business) or  Files Chapter 11 and reorganizes under a prescribed set of rules  If the market defaults / ceases to function  Broader potential impacts - Multiple entities default or a cascading of default is triggered?  Is reorganization possible? Under what conditions?

Where are we in the process?  In February, the BOD asked that we develop a Market Credit Risk Standard  Initial draft considered in the spring would have placed “hard” limits on the amount of credit risk allowed in the market  Limits to be defined by the market  CWG conveyed to the F&A Committee that there was a need  to further review the PFE model and assumptions being used  for ERCOT and the market to gain more familiarity with the process before establishing limits  to consider more fully the impacts of Nodal in the credit model  F&A Committee understood the concern and asked that we move forward with a reporting Market Credit Risk Standard as an interim step

What is included in the draft Standard?  Big picture goals / guiding principals  Easily understood by all stakeholders  Nuts and bolts for achieving the goal  Assign responsibility for measuring, monitoring and managing the risk  Define the risk tolerance  Define how the risk will be measured  Define actions to be taken as level of risk approaches or exceeds tolerance

Major headings in the draft Standard  Purpose – defines the purpose of the Standard  Definitions  Standard  Market credit risk objective – provides the objective  Delegation of authority – defines who is responsible  Internal control – requires procedures and controls be maintained over the process  Measurement – defines how to measure the credit risk  Potential Future Exposure or PFE model  Reporting – defines what, how and when credit risk will be reported  Market Credit Risk Standard Adoption – requires regular review and defines how the Standard will be changed

Big picture goals / guiding principals Purpose This Market Credit Risk Standard provides a framework by which the ERCOT Board of Directors seeks to maintain the long-term financial integrity of the ERCOT market and to help ensure that overall market credit risk is maintained within acceptable limits. Market Credit Risk Objective In seeking to fulfill BOD objectives to provide for a reliable Texas electricity market, ERCOT stakeholders will –directly consider the credit implications of operational or market decisions, and –seek to maintain a market-wide credit risk profile consistent with an investment grade rating

Discussion of specific components of the draft Standard  Open discussion

Schedule  Friday, June 27 th – ERCOT staff distribute Market Credit Risk Standard (reporting standard) draft to CWG  Monday, July 7 th – ERCOT staff distribute draft Standard to TAC, WMS and RMS  Thursday, July 31 st - Comments due on the Standard draft (first round)  Wednesday, Aug 13 – Review draft Standard with RMS at their regular meeting  Thursday, Aug 14 – Review draft Standard with CWG at their August meeting  Wednesday, Aug 20 – Review draft Standard with WMS at their regular meeting  Friday, August 29 th – Comments due (final)

Schedule (cont)  xxx, Sept xx – Review draft Standard and final comments with CWG at their September meeting  Wednesday, Sept 10 th – RMS review final comments at their regular meeting  Wednesday, Sept 17 th – WMS review final comments at their regular meeting  Thursday, Oct 2 nd – TAC review final draft  Tuesday, Oct 21 st – present draft Standard to F&A

Questions?