The Multi Commodity Exchange of India (MCX) has secured approval from the Securities and Exchange Board of India (SEBI) to introduce electricity derivatives.

These financial instruments derive their value from electricity prices and are primarily used for hedging, speculation, or arbitrage. They enable power producers, distributors, and large consumers to manage risks associated with electricity price volatility. Instead of physical delivery, any gains or losses from price fluctuations are settled in cash, making the contracts purely financial.

According to Praveena Rai, MD and CEO at MCX, the launch of electricity derivatives is a significant milestone for India’s commodities landscape. She noted that these contracts will offer market participants a transparent, reliable, and regulated platform to manage the increasing price volatility in the power sector. The rising share of renewables and the shift toward market-based mechanisms are making electricity prices more dynamic, and derivatives can act as a crucial link between physical electricity markets and financial risk management.

Historically, India’s power sector has relied on long-term power purchase agreements (PPA) to mitigate price volatility. These contracts, often lasting 25 years, offer price stability but lack adaptability, as they do not reflect changing supply and demand conditions. As a result, stakeholders have limited flexibility in responding to market dynamics.

Meanwhile, the short-term power market, facilitated by power exchanges, has become increasingly unpredictable. Prices recently plummeted due to surplus solar generation. The markets have also spiked to regulatory caps during peak demand hours. This unpredictability poses risks for both generators and consumers.

Electricity derivatives offer a potential solution to these challenges. Power generators can use them to hedge against price drops when selling in spot markets. At the same time, large industrial consumers can manage their electricity procurement costs more effectively by capping their exposure. Additionally, introducing these contracts allows traders and financial institutions to treat electricity like any other commodity, integrating it into investment portfolios with defined and measurable risk profiles.

Globally, electricity derivatives have played a crucial role in mitigating power market volatility across mature economies. In the U.S., exchanges such as the New York Mercantile Exchange and the Intercontinental Exchange (ICE) trade futures and options tied to major regional transmission organizations. In Europe, the European Energy Exchange handles a wide range of electricity derivatives, offering financial and physical settlement mechanisms. The UK’s power contracts are traded on ICE and Nord Pool N2EX, while the Australian Energy Securities Exchange offers baseload and peak load futures tailored to the National Electricity Market.

There has been a regulatory movement to promote virtual PPAs as more commercial and industrial entities seek to meet their net-zero targets without needing the physical connection to a renewable energy project, especially those with distributed operations and leased facilities.