Ignore This Agency at Your Own Peril

 | Nov 03, 2013 | 5:00 PM EST  | Comments
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Stock quotes in this article:

kmi

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sre

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se

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lng

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xom

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itc

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exc

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cpn

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dyn

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nu

Located near Washington, D.C.'s Union Station is an obscure federal agency that has enormous control over the nation's energy companies. Even some senators have been a little confused about this agency -- but investors would do wise to pay attention, as its decisions affect the top lines of most of the nation's energy producers and transporters. These include Exxon Mobil (XOM), Kinder Morgan (KMI), Sempra Energy (SRE), Spectra Energy (SE), Cheniere Energy (LNG), ITC Holdings (ITC) and American Electric Power (AEP).

No, it is not the Energy Department. It is the Federal Energy Regulatory Commission, or FERC for short. FERC is an independent agency that regulates the interstate transmission of electricity, natural gas and oil. FERC also reviews proposals to build liquefied natural gas (LNG) terminals and interstate natural gas pipelines and licensing hydropower projects, per the website.

If energy moves on a system that crosses state lines, FERC regulates it. If the system stays within the state, FERC may not have jurisdiction.

Jurisdiction is important. The State of Texas will have four power markets operating within their territory. Their largest, the Electric Reliability Council of Texas (ERCOT), was specifically designed to avoid federal regulators. None of ERCOT's transmission lines crosses state lines. No power leaves ERCOT.

Texas accomplished this feat by building a virtual fence around ERCOT. In order for energy to enter or leave ERCOT, it must be converted to direct current and reconverted back to alternating current.

Notwithstanding ERCOT's crafty design to avoid federal bureaucrats, it is being challenged by FERC. Apparently, FERC is concerned about ERCOT's reliability -- it worries the latter will not have enough capacity to meet peak needs.

The key jurisdictional distinction for FERC is interstate commerce. Intrastate (within state) regulations are typically dealt with State Public Utility Commissions (PUCs). This includes the regulation of electricity and natural gas sales to consumers, approval for new electric generation facilities, regulation of municipal power systems, federal power marketing agencies and most rural electric cooperatives.

However, FERC does not oversee pipeline construction, regulate pipeline safety, regulate pipelines across the Outer Continental Shelf or approve mergers and acquisitions of natural gas and oil companies. In addition, it does not regulate local distribution facilities, nor is it concerned about our local distribution pipelines.

FERC claims its top initiatives are the smart grid, demand response, integration of renewable energy sources, transmission planning and cost allocation. In reality, one of the hottest topics in its preview is demand response.

It may not be a hot issue for FERC, but it has become a hot item for market participants. In all likelihood, demand response could become FERC's largest challenge.

Demand response touches everything important to FERC. It affects the smart grid, and it needs to be responsive to the integration of wind, solar power and energy storage resources.

Not all market participants like the idea of expanding demand response programs. It is a growing threat to such energy producers as Exelon (EXC), Calpine (CPN), NRG Energy (NRG) and Dynegy (DYN).

However, it is a huge opportunity for wire companies like ITC Holdings American Electric Power, ConEd (ED) and Northeast Utilities (NU). In theory, demand response could allow wire companies to earn additional lines of revenue for minimal capital expenditure.

Like everything else Washington touches, simple issues have quickly become complex. For example, FERC is seeing a need to integrate its natural gas regulations with its bulk power regulations. Washington's idea is to assure generators they have adequate fuels to sustain reliable power networks. The result could force gas pipelines to coordinate their operations with the needs of electric power generating companies.

Speaking of complex issues, FERC is not always a stand-alone agency. On several occasions, its purview has overlapped the jurisdiction of the Securities and Exchange Commission. At times, each of these has overlapped the authority of Commodities Futures Trading Commission. As a result, if an energy executive gets a call from a Washington regulator, it could be from any one of the three agencies. It could also be all three -- so lawyer up.

Investors need to pay close attention to FERC and its activities. Revenue numbers for the transportation of oil, natural gas and bulk power are mostly decided at 888 First Street, NW, Washington, D.C. Ignore monitoring this agency at your peril.

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