1. Energy Risk Management Credit Rating Perspective

2. Energy Trading & Marketing Credit Rating Methodology
Our Objective:
Understand an energy companies’ risks and how well those risks are managed
Both quantitative and qualitative analysis tools are used to evaluate risks
Findings are incorporated into credit ratings
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3. Analysis Tools Three pronged approach Risk Management Practices
Evaluation of a company’s ability to identify and monitor significant risks, limit losses and operate within well communicated risk tolerances
Capital Adequacy
Measures discrete risks of market, credit and operational risks
Liquidity
Measures exposure to collateral calls under stress scenarios
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4. Risk Management Practices
Qualitative assessment of risk management practices
Analysis will be tailored for specific business model
For a company that has good financial flexibility and capital or takes few unusual or complex risks, risk management practices will be less important
For a company that has weak financial flexibility and capital or takes unusually high or complex risks, risk management practices will be very important
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5. Risk Management Practices Framework
Policies – Risk Culture and Structure
II. Infrastructure – Process and Technology
III. Methodology – Measurement and Reporting
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6. Policies Risk Tolerance Authorities Disclosure Business Strategy
What is the business model? What risks are included in the business strategy?
Risk Tolerance
Is the risk tolerance consistent with the business strategy?
Authorities
Do authorities reflect a desired tolerance for risk?
Disclosure
Is the risk and its effect on cash flow disclosed externally and internally?
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7. Policies Evaluation
In the policy dimension, Standard & Poor’s will look for:
Corporate commitment to risk management
Communication with board on risk positions and risk management programs
Clearly defined and communicated risk management policies
Corporate governance structure that supports risk management
Independent risk management function
Consistency between business strategy and risk
Senior management’s involvement in the risk process
Risk limits that reflect risk tolerance and capital deployed
Compensation is tied to achievement of risk management objectives
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8. Infrastructure Operation Data People Technology
Is sophisticated software and effective hardware in place?
Operation
What is the quality of the operational processes?
Data
What is the level of data integrity?
People
Are the appropriate people employed and are the proper incentive programs in place?
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9. Infrastructure Evaluation
In the Infrastructure dimension, Standard & Poor’s will look for:
Qualified risk management staff
Adequate training and budget available to risk management staff
Compensation linked to achievement of risk management objectives
Proper infrastructure exists to support risk management
Data quality – data is validated and timely
Controls are in place with respect to data usage
Technology used is consistent with risk tolerance and business strategy
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10. Methodology VaR, stress testing and other measures Model vetting
Are the models and stress tests appropriate for the business
Model vetting
Are the models properly vetted?
Valuation
How are the positions valued?
Performance
Are the methodologies tied into performance?
Management understanding
Does senior management understand the model risks?
Methodology questions will be tailored for business model
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11. Methodology Evaluation
In the methodology dimension, Standard & Poor’s will look for:
Identification of metrics used to quantify risks and manage limits
Understand how metrics influence decision making
Metrics are commensurate with business strategy
Independent validation of models
Models that are validated against actual market outcomes
Risk factors that are evaluated periodically
Assumptions that are reasonable
Reports that are in place to support compliance with risk management policies
Reports effectively control business activities and disclose risks on a timely basis
Appropriate risk management documentation is in place
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12. Capital Adequacy Model
Addresses the potential economic loss due to market, credit and operational risk of a trading operation
Estimate the amount of risk capital and impute it as debt
Current Model imputes debt = 6x trading VaR + 4x probability adjusted credit exposure
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13. Market
For trading positions, Standard & Poor’s primarily relies on VaR calculation
Use a 10 day holding period with 99% confidence interval
Multiple is used depending on credit rating, e.g. 4x that number is necessary for a “BBB” rating
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14. Credit
Credit risk is measured by taking the one year default probability times the unsecured credit line for each counterparty
That number is multiplied by a factor depending on credit rating, e.g. 4x for investment grade
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15. Operational
Operational risk should incorporate both financial and physical operational risk
Currently using 50% of the market risk capital
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16. Liquidity Analysis Standard & Poor’s Objective:
To measure the sufficiency of liquidity under stress scenarios
Credit Event
Downgrade to non-investment grade
Market Event
Stress test movement in commodity prices
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17. Liquidity Analysis Tools
CELA measures a company’s exposure to a credit event
MCELA measures a company’s exposure to a simultaneous credit event and market event
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18. Liquidity Analysis Tools
Credit Event Liquidity Adequacy
CELA =
Primary liquidity
Neg MTM without price stress
Market and Credit Event Liquidity Adequacy
MCELA =
Primary liquidity
Neg MTM with price stress
Primary liquidity = unrestricted cash + committed credit lines
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19. Ratings Implications
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20. Investment Grade companies should maintain an MCELA ratio of 1.0x
Ratings Implications
Investment Grade companies should maintain an MCELA ratio of 1.0x
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21. Mitigating Factors Discretionary inventory Reserves
Discretionary business
Capital spending
Debt maturity profile
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22. Director, Utilities, Energy and Project Finance Standard & Poor’s
Arleen Spangler
Director, Utilities, Energy and Project Finance
Standard & Poor’s
55 Water Street
New York, NY 10041 P F
9/17/2018