Portfolio Optimization for Power Plants: The Impact of Credit Risk Mitigation and Margining

FCN Working Paper No. 11/2010

59 Pages Posted: 28 Sep 2010

See all articles by Joachim Lang

Joachim Lang

RWTH Aachen University

Reinhard Madlener

RWTH Aachen University

Date Written: September 1, 2010


The aim of this study is to analyze the impact of credit risk mitigation via margining on the optimal portfolio selection for power plants. We develop a model to estimate margining cashflows that is based on the clearing framework of the European Commodity Clearing AG (ECC), on stochastic commodity price tracks, and on a pre-defined hedging strategy. To evaluate an assumed set of power plants, we calculate the discounted cashflow for each power plant in conjunction with a market model and a Monte Carlo simulation on commodity price tracks. The valuation of the power plants is done with and without credit risk mitigation by means of margining. The resulting differences in the values, with and without margining, are analyzed with the mean-variance portfolio approach of Markowitz, to specify the consequences of margining on the efficient frontier of possible power plant portfolios. We find that the consideration of margining for power plant portfolio selection is relevant, as it can markedly change the composition of efficient portfolios on the efficient frontier.

Keywords: Margin@Risk, Credit Risk Mitigation, Margining, Collateralization, Risk Capital, Power Plant Valuation, Portfolio Optimization, Cashflow Planning

JEL Classification: G11, G17, G32, L94, O16

Suggested Citation

Lang, Joachim and Madlener, Reinhard, Portfolio Optimization for Power Plants: The Impact of Credit Risk Mitigation and Margining (September 1, 2010). FCN Working Paper No. 11/2010. Available at SSRN: https://ssrn.com/abstract=1683508 or http://dx.doi.org/10.2139/ssrn.1683508

Joachim Lang (Contact Author)

RWTH Aachen University ( email )

Templergraben 55
52056 Aachen, 52056

Reinhard Madlener

RWTH Aachen University ( email )

School of Business and Economics / E.ON ERC
Mathieustraße 10
Aachen, 52074
+49 241 80 49 820 (Phone)
+49 241 80 49 829 (Fax)

HOME PAGE: http://www.eonerc.rwth-aachen.de/fcn

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