For years, the standard approach taken by small and medium-sized enterprises (SMEs) seeking to limit their electricity spending has been simple: sign a fixed-rate contract and lock in the cheapest available unit rate. This approach offers the seemingly undeniable advantage of budget certainty, protecting business owners from the volatility of the electricity wholesale markets. But this benefit comes at a price: by signing a fixed-rate tariff, the SME is effectively transferring the market volatility risk back to the energy supplier who, in turn, embeds a risk premium within the quoted fixed-rate tariff to cover this uncertainty.

Wholesale price volatility isn’t the only risk that electricity suppliers need to manage. They must also maintain grid stability by ensuring that supply precisely matches demand at every minute of every day. Teams of data scientists build complex models to forecast demand across the portfolio of clients as accurately as possible, but those models are not perfect. They cannot account for the cancelled order that leaves production lines idle, or the unexpected rush job that needed a whole team to work overtime, so there is always some mismatch between the prediction and actual demand.

To correct this imbalance, the supplier must buy or sell the respective deficit or surplus electricity on the day-ahead or intraday spot markets. Sometimes their customers need more energy at a time when spot market prices are high or need less energy when spot market prices are low, so suppliers build in a ‘shape risk premium’ charged on every kWh of energy sold.