Electrical Engineering - Real Options Valuation and Optimal Operation of Electrical Power Plants in Competitive Markets (Good Simulation).pdf

Real Options Valuation and Optimal Operation of
Electrical Power Plants petitive Markets
Matt Thompson, Matt Davison, Henning Rasmussen
Department of Applied Mathematics, University of Western Ontario
London, Ontario Canada, N6A 5B8
Abstract
We present an algorithm for the valuation and optimal operation of hydro-electric and thermal power
generators in deregulated electricity markets. Real options theory is used to derive nonlinear partial-
integro-differential equations (PIDEs) for the valuation and optimal operating strategies of both types
of facilities. The equations are designed to incorporate a wide class of spot price models that can exhibit
the same time-dependent, mean-reverting dynamics and price spikes as those observed in most electricity
markets. Particular attention is paid to the operational characteristics of real power generators. For
thermal power plants these characteristics include variable start-up times and costs, control response
time lags, minimum generating levels, nonlinear output functions, and structural limitations on ramp
rates. For hydro-electric units, head effects and environmental constraints are addressed. We illustrate
the models with numerical examples of a pump storage facility and a thermal power plant. This PIDE
framework can achieve high levels putational speed and accuracy while incorporating a wide range
of spot price dynamics and operational characteristics.
Subject Classifications: Natural Resources/ Energy: deregulated electricity markets, Finance/Asset Pricing: pricing power
plants as real options, Dynamic Programming/Optimal Control: Application.
Area of Review: Environment, Energy, and Natural Resources.
1
1 Introduction
The valuation and determination of optimal operating strategies of electrical power generation facilities has
long been the focus of research interest. In regulated markets run by government monopolies, the decision
of how to optimally schedule a large number