Electricity reference price in the electricity derivative market

Electricity price forecasting has become
a vital area of research after the global restructuring, deregulation and the
introduction of competitive market in the power industries. Prior to
deregulation, electricity prices were normally regulated, and predetermined
tariffs was provided to the buyers.  The
effort to design an
effectively operating competitive market that give players the accurate
incentives were supposed to enhance production efficiency and put a limit to
market power. Thus, in deregulated electricity market, the players have more
freedom. *

In the early 1990s, deregulation of
the Nordic market commenced in Norway (Flatabø
et al., 2003). Now,
Estonia, Sweden, Denmark, Norway, Finland forms a single market in which
electricity is sold in a common power exchange controlled by Nord Pool Spot AS
(Nord Pool Spot,2011b). Its major market place is the day-ahead auction market Elspot, which determines the spot
price. “According to Nord Pool Spot (2011b), the power exchange serves the
society by ensuring that the wholesale electricity trade has a transparent
pricing, the spot price is used as reference price in the electricity
derivative market and the quotes for long-term contracts shows the expectation
for future prices. Furthermore, it ensures the market provides a system for maintaining
a balance between physical supply and demand. today

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In several countries, electricity is being
traded under market rules with use of spot and derivative contracts.  However, electricity is a distinct commodity
in that it is not economically storable, thus, there is need to ensure the
quantity of power supplied into the grid is equivalent to consumption, so that
the power system is stabilized 1.  Also, the demand for electricity is dependent
on intensity of business, the activity of the day (working days and weekends,
holidays, on and off-peak hours) and weather. These factors make electricity
prices to exhibit seasonality, major volatility and unanticipated significant
price spikes. Thus, researcher as increased forecasting electricity