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May 08, 2012
Brattle Consultants Author Public Utilities Fortnightly Article on Dollar Cost Averaging in Hedging Commodity Price Risk

Brattle principals Rich Goldberg and James Read have authored an article for the May 2012 issue of Public Utilities Fortnightly, which explores how a new approach to hedging commodity price risk has become increasingly popular despite its ineffectiveness in reducing commodity costs.

A new approach to hedging commodity price risk, referred to as dollar cost averaging (DCA), has gained traction in the natural gas and electric utility industries. DCA is similar to another method many public utilities employ, known as time averaging (TA). Although DCA appears to offer substantial cost savings over alternative hedging approaches, such as TA, Dr. Goldberg and Mr. Read discuss that evaluating DCA critically reveals that this approach fails to reduce commodity costs compared to TA.

In the article, Dr. Goldberg and Mr. Read argue that similar to an audience at a magic show, proponents of DCA have fallen prey to misdirection by focusing on one component of commodity procurement costs, and therefore failed to see another. The authors contend that those in favor of DCA miss the point that the hedge cost advantage of DCA is fully offset by the balancing cost disadvantage. In addition, DCA is less effective than TA at mitigating extreme market price outcomes.