Public Service Commission

PUBLIC SERVICE COMMISSION OF WEST VIRGINIA CHARLESTON

HOPE GAS, INC., dba DOMINION HOPE CASE NO. 11-1103-G-30C Rule 30-C Application.

CONSUMER ADVOCATE DIVISION’S INITIAL BRIEF

At the outset, the Consumer Advocate Division (CAD) and Hope Gas, Inc. (Hope) reached an agreed settlement of this case in December, 2011, with a purchase gas rate of

$6.25/MCF, which was approved by Final Order February 16, 2012. The CAD is bound by this agreement and takes no position on further rate reduction in this proceeding.1 The CAD will limit its remarks to the matter of hedging as a general utility practice in gas acquisition.

BACKGROUND

Dominion Hope began its current financial hedging program as a result of a settlement in

Case No. 04-1188-G-30C, September 14, 2005. The program started in 2006 and uses the

Planalytics Gasbuyer system to generate buy prompts of NYMEX gas futures contracts over an

18-month window. Hedging for any given month starts 18-months earlier and is conducted on a rolling horizon. Hedging activity is limited to no more than 50% of projected monthly gas purchases.2

Hope’s counterparty is Virginia Power Energy Marketing (VPEM). Both companies are affiliates of Dominion Resources. All gains or losses associated with hedging accrue to Hope customers. It is uncontroverted that since its inception in March 2006, Hope has lost approximately $18.2 million in its hedging program.3

1 As an aside, CAD and Hope settled the current 30C case with a gas price of $6.25/MCF. The Mountaineer 2011 30C Order set the PGA rate at $6.108/MCF. Case No. 11-1121-G-30C, Final Order Jan. 30, 2012. 2 See generally, Ron Walther direct testimony p. 6. 3George Donkin, direct testimony p. 7, Ron Walther cross, Transcript pp. 42-44, 49. 1 APPLICABLE LAW

West Virginia Code §24-2-4c states that a gas utility seeking a rate increase for purchased gas costs has the burden of proving that dependable lower priced supplies of natural gas were not readily available elsewhere. The Commission conducts Rule 30C cases to analyze whether gas utilities have exercised reasonable and prudent purchasing practices. See generally, Mountaineer

Gas Company, Case No. 08-1304-G-30C, Order November 10, 2008.

CAD’S POSITION ON HEDGING

The Commission spelled out its position on the use of hedging instruments by natural gas utilities in Mountaineer Gas Company Case No. 01-1614-G-PC, where it issued the following relevant Conclusions of Law.

1. Consideration of the use of natural gas commodity futures contracts and related financial derivatives for hedging natural gas supply costs should be a part of a natural gas utility’s management responsibility.

2. Other strategies, including fixed price contracts and spot market purchase may also be reasonable and prudent and should be regularly considered by a natural gas utility.

3. Since this is the first time that either (of the petitioning companies) has indicated to this Commission that they will include financial options in their gas supply strategies, we find that the CAD’s recommendation to place some limit on the use of such options is reasonable. Furthermore, recognizing that fixed price contracts and current gas storage levels are not included in the definition of financial hedging options, we find that limiting financial hedging instruments to no more than 50% of total annual gas supply requirements is reasonable.4

More recently, the Commission again endorsed hedging in a general investigation in

We agree with the comments that the goal of hedging is to reduce price volatility and not to obtain the lowest possible priced supplies. It is the Commission’s expectation, consistent with W. Va. Code §24-2-4c, that natural gas utilities will always seek to obtain readily available, dependable gas supplies

4Mountaineer Gas Company and West Virginia Power Gas Service, dba Allegheny Power: Petition for Consent and Approval to Purchase Natural Gas Hedging Instruments for Gas Supply. Order, January 24, 2002. 2002 W.Va. PUC LEXIS 312. 2 at the least possible cost. This mandate is not contrary to the concept of a well- balanced supply portfolio, which may include hedges.5

CAD agrees with the Commission’s generally favorable approach to hedging gas prices.

CAD does not agree with Mr. Donkin’s recommendation to eliminate hedging altogether. It is clear that Hope’s hedging program has not worked well. However, the evidence at hearing shows many of these losses occurred in the steadily declining market that has prevailed since the summer of 2008. See Ex. GLD-1. Mr. Donkin also said he was personally aware of three other utilities with similar disappointing hedging results. Donkin direct p. 10, lines 20-25. Finally,

Mr. Donkin testified that the fall in gas prices is going to stop soon.

Q. But do you agree with the idea? There’s going to be a point where – and I think someone earlier said this same thing, (that) there’s going to be a point where the fall in gas prices stops. Do you agree with that?

A. Yes. And where we are today is pretty close to that I think.

Q. Do you have a number where --?

A. No, I don’t. . .6

And, that leaves the question whether Hope’s hedging program would be beneficial in a rising market. Asked about that possibility, Mr. Donkin did not have an answer. (See

Transcript pp. 141, line 15 – 143, line 3.) Nor did he have specific recommendations on total gas portfolio make-up (long-term contracts, short term contracts, spot market purchases). See. e.g.

Transcript pp. 137-138, 139-140.7

5 Petition of the Consumer Advocate Division for a General Investigation Into Natural Gas Price Hedging Practices, Case No. 09-0148-G-GI, Order March 31, 2010 p. 6. 6 Transcript pp. 141, line 23 – 142, line 6.

7Mr. Donkin did recommend “lots” of spot market purchases, but his total portfolio recommendation seemed to vary somewhere between 50 and 80 percent. Transcript beginning at p. 137, line 21. Please note also transcript correction to strike “stock market” and insert “spot market” at line 22-23. 3 The CAD witness Mr. Harris said because the price of gas has fallen so far already it is unlikely to fall much further. “Obviously, anyone who has been hedging on the buy side since

July 2008 has lost money because you’ve had a steadily declining market since July 2008. What

I would argue now, to abandon hedging at this point, I think quite frankly (is) premature. The risk to consumers on the down side is I think fairly minimal compared to what the risk on the upside is.” (Transcript pp. 99, line 23 – 100, line 4)

In other words, the probability of price trending up or down is not 50-50; it’s more likely to go up, or soon will be. And, the resulting risk of exposure to rising prices is greater than the risk of hedging losses due to falling prices. It is for this reason that CAD opposes complete termination of hedging natural gas futures contracts. Even Mr. Donkin appeared to agree that hedging can be helpful in that context. (Transcript pp. 131, line 25 – 134, line 12)

That said, it is the company’s responsibility to reasonably and prudently manage its gas portfolio. Mr. Walther testified repeatedly that the company simply followed Planalytics buy prompts -- “Planalytics made us do it.” (See, for example, Transcript at pp. 53, 54, 56, 62, 65,

69.) Planalytics is a dollar cost averaging program designed to show positive returns over the long term, as opposed to chasing short term gain. It is part of the stipulated agreement in Case

No. 04-1188-G-30C.

The CAD has no reason to suspect the model is defective. However, the CAD and Hope have an ongoing disagreement over the company’s affirmative duty to manage its gas portfolio.

Hope historically has sought to absolve its management responsibility behind a Commission approved stipulation or order endorsing a specific gas purchasing practice or methodology. (See

Harris testimony, Transcript pp. 96-98). It is the CAD’s position that the company must demonstrate that it is playing an active role in managing its gas purchases, and that means long

4 term contracts, monthly contracts, spot purchases, storage (physical hedging), gas release, and, where reasonable and prudent, financial hedging.

Respectfully submitted,

______Tom White Counsel for Consumer Advocate State Bar No. 6393