Several former Exelon Power Team energy derivatives structurers are launching what they believe will be among the first energy derivatives hedge funds. The fund, to be called GingerBread Man Partners, will begin by trading liquid exchange-traded options, such as natural gas and heating oil contracts on the New York Mercantile Exchange. Once it grows to about USD10 million under management, it will be able to trade off-exchange exotics, for example, best-of options and spark spread options, as well as more standardized over-the-counter products, said Tamir Druz, partner and managing director in Philadelphia. A spark spread option would allow the fund to take a view on the price of power versus the heat-rate-adjusted price of fuel. The fund is looking to take advantage of pricing inefficiencies in the energy options markets. For example, the market is struggling with how to model electric power derivatives, said Druz. Prices for power in a power pool can routinely spike in a summer, then revert to a mean level—behavior that many players' models cannot account for or predict. Many players work off the Black 1976 model, or modified versions of it. These models assume power prices move according to geometric Brownian motion, or randomly. The initials in geometric Brownian motion, or GBM, helped inspire the name of the fund, GingerBread Man. The name is also a reference to the elusive children's book character.
Druz noted that with the equity markets and many of the more traditional alternative investments taking a pounding last year, a fund dealing with energy is an attractive strategy. Druz knows the flaws of many power players' models from having seen them when he worked at PricewaterhouseCoopers's energy risk management group in New York, he said.
The fund currently has no investors apart from Druz and So-June Donohue, partner and structuring analyst. She is also a former power trader at Exelon. When the fund's disclosure documentation is approved, which is expected later this month, it will solicit cash from institutional investors, high-net-worth individuals, and strategic investors, such as energy companies looking to start up a trading capability. Druz expects the fund to have USD10 million under management by year-end, which is about the minimum required by most counterparties to enter into OTC deals. No hires are planned for the near term.
Exelon Power Team is the wholesale marketing division of Exelon Generation Co. Exelon was formed last year in a merger between PECO Energy and Unicom, the holding company of Chicago's Commonwealth Edison.
