Ex-JPMorgan Traders Lost Millions on Bad Bets in Power Market

(Bloomberg Businessweek) -- Two energy traders, veterans of JPMorgan Chase & Co., saw an opening. Starting in 2015, Andrew Kittell and John Bartholomew plunked down millions of dollars in bets in an obscure corner of the energy market. Their strategy depended on certain parts of America’s largest electric grid being congested, driving up power prices. But the wagers fizzled. Their portfolio, valued by some at more than $150 million, soon cratered.

After failing to pay up for losing positions in June, their firm, GreenHat Energy LLC, was declared in default. And now everyone from utilities to manufacturers and residential customers are left holding the bag to make up the tens of millions of dollars in losses. Beyond that, the trading collapse shows how complex and opaque some parts of America’s energy markets have become. That’s made them vulnerable to potential gaming by Wall Street players.

“The whole thing is a mess and a disaster,” says Marjorie Philips, a director of federal services at Direct Energy, a retail provider of electricity to homes and businesses. “GreenHat was allowed to take a very large position that may have made economic sense at one point. But like everybody else, they were probably hoping to hit the jackpot, and they didn’t.” GreenHat and Kittell, through an attorney, declined to comment; Bartholomew could not be reached for comment.

GreenHat, based in Houston, bought hedges in a market administered by PJM Interconnection LLC, which oversees the wholesale electric grid that serves 65 million people from Chicago to Washington, D.C. The hedges are known as financial transmission rights, or FTRs. They are used in deregulated power markets to help energy buyers, generators, and distributors protect against localized price swings. Bottlenecks can sometimes form on the power grid—such as during an ice storm or when a plant goes down—creating what are known as congestion costs. Using an FTR, a big power buyer can get paid when congestion costs rise, offsetting its risk. But it might also end up owing money if there isn’t congestion.

Financial players can buy FTRs, too. Much of GreenHat’s portfolio was “long-dated”—meaning it was betting on transmission-line congestion patterns that wouldn’t start until June 2018. And based on historical patterns, most of those positions initially looked like smart moves, according to PJM. That likelihood of success brought a side benefit to GreenHat: Under PJM rules at the time, it could keep building up its portfolio without having to put up much money as collateral. But GreenHat would have to pay if congestion patterns turned out to differ widely from those in the past.

Warning signs soon appeared. In April 2016, DC Energy LLC, one of the largest and most experienced buyers of FTRs, raised concerns with PJM about large portfolios that had no collateral attached. Questioned by PJM, Kittell said in essence that GreenHat had contracts with a third party that would pay out more than $62 million, providing backup, according to a PJM filing with the Federal Energy Regulatory Commission.

By spring 2018, GreenHat’s bets were looking bad. Upgrades had taken place to transmission lines across the Eastern U.S. that promised to lessen congestion on the grid. But instead of closing out its doomed positions, GreenHat did the opposite and doubled down. It bought additional hedges that expanded its PJM portfolio by almost half—while also serving to keep the company’s collateral requirements very low.

On June 5, GreenHat received an invoice from PJM for $1.2 million to cover losses. It didn’t pay. On June 21, PJM declared GreenHat in default. Losses have continued to mount, according to PJM. The portfolio has more hedges that will probably keep losing money for three years, though it’s impossible to say exactly how much because of changing conditions with transmission lines. And that third party that GreenHat promised would cover losses? The unnamed entity told PJM that it doesn’t owe the firm anything, according to the PJM filing.

Since GreenHat isn’t paying for its losing bets, that leaves it for fellow PJM market participants to pick up the tab. Some are now in a debate about how to unwind the positions—book the losses now or let the bets run their course. In the meantime, PJM has begun to charge its thousand or so members, companies that use the transmission lines to move electricity or for other purposes. Smaller businesses have to pay about $10,000, while big, active PJM participants, including the likes of Exelon Corp. and American Electric Power Co., will need to absorb the rest. Members are also debating whether several changes adopted by PJM will be enough to prevent a similar incident. PJM said in a statement that it’s investigating the situation and its options for legal action.

It turns out that just two years before Kittell and Bartholomew started buying the hedges, they were ensnared in a high-profile scandal with federal energy regulators while working for JPMorgan. Accused of manipulating wholesale power markets, the bank settled in 2013 by paying a $285 million civil penalty and disgorging $125 million in profits. JPMorgan had no comment.

Back in 2010, the bank had a financial stake in old, money-losing natural-gas power plants in California. In September of that year, the plants’ fortunes suddenly reversed and they became profitable. What changed? FERC alleged that a JPMorgan team including Kittell and Bartholomew had developed manipulative bidding strategies that “were intended to, and in almost all cases did,” lead JPMorgan to make money from grid operators “far above market prices,” according to a 2013 consent agreement with the bank. In one of a dozen suspect strategies, for example, JPMorgan offered grid operators power at a loss for itself, beating out more efficient plants, and then used loopholes in the grids’ rules to be made whole later. The bank did not admit or deny wrongdoing in agreeing to the settlement. The two traders’ attorney at the time said their actions had been lawful.

In summer 2018, Kittell and Bartholomew were making no mention of GreenHat on their LinkedIn profiles. But the company’s impact is still being felt. GreenHat “can easily walk away and leave other people holding the bag,” says Susan Bruce, an attorney who represents the group PJM Industrial Customer Coalition. “Large steel mills, large manufacturers, your mom and pop dry cleaners—they’re going to pay a portion of this default. Everyone else is holding the bag.”

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