When the first winter storm of the year approaches, survival instincts kick in: Dig out the coats, boots, and mittens. Join the throngs at the grocery store to secure provisions. Ensure you have a full library of bingeable TV shows and movies.
For a small corner of Wall Street, the reaction is also survival — of a portfolio of derivatives known as financial transmission rights, which pay out based on where and how much the electrical grid gets overloaded.
“Whenever it gets cold, the first instinct is, ‘Oh, I wonder what that means for my FTR portfolio?'” said Kumar Jeev, a veteran power trader who’s building a congestion-trading team at the hedge fund Squarepoint Capital.
The strategy boils down to predicting when transmission lines on power grids are most overloaded and prone to large pricing disparities. Harsh winter weather, such as the bomb cyclone that walloped much of the Midwest and East Coast over Christmas in 2022 or the Arctic chill that left 4.5 million Texans without power in 2021, can create fortunes or misery for power traders.
But storms are more extreme examples of the complex variables that can jolt the electrical grid. Congestion traders — who often have Ph.D.s in electrical engineering or data science — are also trying to game out power-plant maintenance schedules and downtimes, as well as the buildout of new infrastructure, to predict when demand on the power grid will spike.
A onetime commodities backwater, congestion trading has become a growing business in recent years as the demand for electricity and volatility on the power grid in the US has soared. It has become an increasingly popular niche at hedge funds and quantitative trading firms, industry traders and recruiters told Business Insider, including Citadel, DRW, Jane Street, Susquehanna, Tower Research, and Verition. This has created a frothy market for a small group of traders, driving up salaries and pay packages.
“These bottlenecks in the grid are increasing,” said Jeev, thanks in part to swelling consumption in the US from data centers, artificial-intelligence processing, electric-car adoption, and crypto mining, among other factors.
FTR trading volume, measured by the associated electrical power on transmission paths, increased from 6,000 terawatt hours in 2010 to more than 14,000 terawatt hours in 2021, according to industry data from power grid operators.
The players in this market — a mix of power-generation and -transmission firms, as well as financial trading firms — totaled nearly 500 companies in 2023, according to estimates by the industry-data company Yes Energy. Some firms have multiple teams or entities trading FTRs, pushing the number of total registered participants in the US up 45% from 2015 to 980, according to Yes Energy.
The financial category, which includes specialized power-trading companies, banks, hedge funds, and large proprietary trading firms, dominates the market, in part because the physical power firms typically operate in only one or two regions. Financial firms accounted for 15 of the top 20 firms by traded volume in 2023, and half of those were large hedge funds or proprietary trading shops, according to Yes Energy.
With energy consumption in the US projected to soar this decade, the smart money might only be getting started.
Richard Roseblade, a power-trading recruiter who’s been working in the energy market for 18 years, said there’s significant overall growth in FTRs as well as demand for the strategy’s best talent.
“There’s been a really competitive fight for some of these traders,” Roseblade said.
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Financial-transmission-rights trading is in its infancy relative to stocks, bonds, and most commodities. But it isn’t new.
At the turn of the century, power markets in the US underwent a dramatic overhaul. Previously, utilities ruled like monopolies — they were incentivized by regulators to deliver electricity to the public reliably and consistently but not necessarily efficiently. In the late 1990s, the Federal Energy Regulatory Commission took a page out of the airline and telephone industries’ regulatory playbooks and attempted to reform and deregulate the industry, enabling the creation in the year 2000 of regional grid systems that sought to embrace free markets — more competition, more choice, and more efficiency, in theory.
In roughly half the country, the free-market approach took root, with power generators cleaved apart from the transmission firms, which carry electricity to homes and businesses. Seven independent, regional entities emerged — known as regional transmission organizations or independent system operators — to oversee the operation, managing bid offers from generators against the expected demand from power-line owners in a delicate balancing act.
FERC
As part of the free-market push, grid operators introduced financial products to allow the local utilities that deliver power to customers to hedge against price shocks. These derivative contracts are like price swaps, entitling the holder to payment when there’s a glut of electricity on a transmission path — of which there are thousands — over a given period. If the power surge on that path flows in the opposite direction, the holder loses money. The nomenclature varies by region, but it’s broadly referred to as a financial transmission right.
Grid operators such as PJM, which operates in 13 states and is the largest of the regional transmission organizations, hold periodic auctions for these contracts, and they clear trades akin to the Nasdaq or New York Stock Exchange.
It didn’t take long for Wall Street to sniff out the opportunity. The power grid is always evolving, and if a trader believed a particular location was primed for disruption — a nuclear plant being mothballed, an incoming heat wave, an Amazon facility moving into town — they could wager on that with a congestion contract. They could also buy up FTRs as a hedge against a portfolio of power futures, or vice versa.
“The system continuously changes. Every year the market is different,” said a senior power trader who was not authorized to speak publicly and asked to remain anonymous.
If a transmission system upgrade comes online, “it’s going to change the dispatch pattern,” this trader said, removing one bottleneck but perhaps creating another elsewhere.
Unlike some Wall Street trading vocations that focus on predicting the price swings of a singular asset — Nvidia stock, Treasury bills, crude oil — congestion traders are gaming out thousands of distinct transmission paths. Computing power and data manipulation are hallmarks of the strategy.
“Some people run a million simulations just to discover conditions in which there might be a bottleneck,” the senior power trader added.
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Power grid deregulation was still in its early days when Jeev graduated from Johns Hopkins University in 2006 and began looking for work. The vast amounts of data produced by the nascent power markets caught his attention.
“I was looking for interesting problems to solve with computer science and math and lucked out with this very interesting space,” Jeev said.
He joined Virginia-based DC Energy after graduation and quickly made a mark. He launched three congestion trading teams for the firm, including in California and Texas after those states introduced congestion trading in 2008 and 2010, respectively. He left DC Energy in 2019 after 14 years to work for global online home goods retailer Wayfair in Berlin before joining Squarepoint at the end of 2022.
Courtesy of Squarepoint
The quant-trading firm is part of the wave of hedge funds and prop shops that have joined the FTR fray or ramped up their investment in recent years.
Traditionally, congestion trading has been dominated by specialized players including Appian Way, Boston Energy, Saracen, and DC Energy. The latter has long been the industry Goliath and remains so today, according to industry participants. DC Energy is known for keeping a tight grip on talent with lengthy noncompetes that discourage opponents from encroaching, people familiar with the firm said. The firm did not respond to requests for comment.
But hedge funds and proprietary trading firms, with ample capital and patience to wait out noncompetes to hire an elite portfolio manager, have been muscling into the territory and changing up the power dynamics.
Citadel, along with Susquehanna International Group and Tower Research, has been involved in FTR trading since the market’s infancy. But the hedge fund ramped up its efforts starting in 2019 with the hire of DC Energy’s Tyler Kuhn, regarded as one of the industry’s best PJM congestion traders.
Chicago prop trading firm DRW started investing heavily in the space around 2020, bringing aboard a handful of FTR traders and support staff. Jane Street started trading FTRs a few years before that but has also accelerated its hiring efforts and has two open roles listed on its website.
The multimanager hedge fund Verition and the quant market maker Old Mission are known to trade FTRs as well.
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Wall Street’s embrace of congestion trading is part of a broader hedge-fund-industry pursuit of commodities profits. Citadel has traded commodities since the early 2000s and is one of the few hedge funds to trade physical products, as opposed to solely trading futures and other derivatives. It reaped $8 billion from its commodities business in 2022 and $4 billion last year, Bloomberg reported, as geopolitical events such as the Russian invasion of Ukraine roiled energy markets.
Millennium, Balyasny, Brevan Howard, and others have made expensive hires to compete as well.
Commodities remain a white-hot priority overall, but especially in energy strategies, with one hedge fund recruiter, who was not authorized to speak publicly, calling the demand “pretty much nonstop these days.”
Competition for FTR traders has grown fierce, and compensation has shot up in response.
Holders of computer-science and electrical-engineering Ph.D.s entering congestion trading have “seen starting pay go up a lot in the past few years or so,” Roseblade said, and candidates are regularly fielding multiple offers.
“Many of these new market entrants need to hire talent, and competition naturally helps push salaries up,” Roseblade said, adding that inflation had played a role, too.
The aforementioned Jane Street FTR job postings list a base salary of $250,000 to $300,000 for someone with two years of experience.
Top-flight congestion traders, as in other hedge-fund strategies, are earning millions.
“It is likely that increasing congestion and profitability in FTRs has led to better trader performance having the indirect impact of increasing offers,” Jeev, who’s still actively hiring for his team, said. Traders with higher returns command higher pay packages, in other words, and the macro trends have made FTR trading more profitable in aggregate.
But you might need a little luck even finding this talent.
One of the oddities of the FTR market is that trading positions are made public by the grid operators. In such a small, clubby world, this can create some awkwardness.
“Everybody knows everybody else’s positions,” the senior power trader said. “It creates a weird paradigm where there are leaders, and there are followers.”
Smaller traders will try to emulate a vaunted trader’s positions or reverse engineer their strategy. As a result, some of the top Wall Street firms attempt to conceal their identities — one reason a company might have multiple registered trading entities, often with names unrelated to the parent company.
“They want to try and protect against people copying their trade strategies,” said Stephanie Staska, the director of trade and risk products at Yes Energy, which collects FTR trade and PNL data. She added: “It’s a very unique market because all of the trade data is public, so people love to see what other people are doing.”
It’s worth noting that public FTR positions may not tell the whole story — they’re at times traded between individual parties on the secondary market, which may not be reported publicly. A given position might also represent only one side of a larger portfolio or more nuanced trade. For instance, a congestion loss might offset gains on a futures basis trade.
Nonetheless, some high-end FTR traders are secretive and won’t update their LinkedIn profiles or attend industry conferences, Staska said.
“It’s a small pool of people,” she said.
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Some of the newer congestion-trading entrants are bringing with them a statistical arbitrage approach that quants have for decades deployed in liquid markets such as stocks and futures — trading models based on troves of historical prices.
Traditionalists have taken notice and, in some cases, umbrage. The fundamental approach also requires advanced data wrangling and modeling, but it’s more focused on the physical electrical grid, isolating the underlying triggers that shift flows and produce bottlenecks.
“There does appear to be increasing polarization between these approaches,” Roseblade said.
Indeed, one experienced congestion-trading exec couldn’t hide his derision for the stat-arb approach to congestion trading, which seeks to extrapolate pricing predictions based on the past. For a system constantly in flux, he said, betting on historic patterns repeating was “a dangerous activity.”
“People do not understand what they are trading,” he said.
Wall Street is flocking to congestion trading with the dream of bumper profits, but the industry professionals BI spoke with all said the strategy could be incredibly risky.
“Power is probably the most volatile product anyone could trade,” said the hedge fund recruiter, citing the 2021 winter storm Uri in Texas. In one week that February, amid rolling blackouts that left people without power for days, prices increased 10,000%.
The price swing created billions in losses, blowing out many traders and sending some firms into bankruptcy.
Inclement weather isn’t necessary to produce financial ruin.
A company called GreenHat Energy emerged from the ether in 2014 with just about $1 million in assets, the minimum required at the time to trade on PJM. It amassed an enormous portfolio of long-dated FTR contracts, becoming the No. 1 participant by open volume by 2017. The company defaulted, resulting in some $180 million in losses and leading to a series of reforms. (GreenHat’s founders, it turned out, were at the center of a market-manipulation investigation that a few years prior resulted in JPMorgan, their previous employer, paying $410 million without admitting wrongdoing to settle the case with regulators.)
More recently, in early 2022, Hill Energy Resource & Services defaulted after it missed a collateral call on a portfolio of FTRs that was projected to lose about $6 million, according to S&P Global. Its losses stemmed from a transmission-line overhaul in Northern Virginia that created a long-term power outage, which at times meant a single transmission line was carrying the power load for the entire Northern Neck peninsula.
“Prices can be very volatile and can potentially flip,” Jeev said, noting that the trade can be very risky. “You can pay for a position and might end up having to pay to get out of it.”
Volatility has been increasing on the power grid, in part because of changing weather patterns, Jeev added.
“There are more extremes, and those extremes cause more extreme consumption in the grid,” he said.
Then there’s the country’s torrid buildout of data centers, which facilitate streaming, e-commerce, and the development of artificial-intelligence models. Amazon is planning or building $87 billion worth of data centers, including 102 in Northern Virginia alone.
Electricity consumption from data centers is projected to triple between 2022 and 2030, according to BCG.
President Joe Biden’s 2022 climate law has accelerated the buildout of electric-car factories and other clean-energy businesses, offering hundreds of billions in tax credits. It’s projected to spur $3 trillion in public and private spending over the next decade.
All this adds up to what could be unprecedented changes to and volatility on the electrical grid.
“One of the reasons the bottlenecks are increasing is we’re trying to electrify everything,” said Meredith Angwin, a chemist, a former project manager at an electrical-power think tank, and the author of the 2020 book “Shorting the Grid: The Hidden Fragility of Our Electric Grid.” Angwin’s book explains and critiques the evolution of the system of regional transmission organizations, documenting the ways the power grid has grown more vulnerable and fallen short of its “free market” promise.
It already takes far less to rattle the grid than it used to, she said, and with demand for electricity poised to explode, will infrastructure expansion be able to keep up?
“If they don’t build more transmission, this is going to lead to more bottlenecks,” Angwin said.
Wall Street is betting on it.
