Arbitrage and rents in European long-term transmission rights

Imagine the electricity grid as a massive, bustling highway system where power is the traffic. Sometimes, traffic flows smoothly from one city to another, but other times, a bottleneck forms, causing a traffic jam in one town while the next town over is wide open. Because electricity is like water that can't be easily stored in a giant bucket for later use, its price changes wildly from hour to hour. To protect themselves from these wild price swings, power companies and retailers buy "insurance" in the form of forward contracts—agreements to buy or sell electricity at a set price in the future.

However, there's a tricky problem: what if the price in your town shoots up, but the price in the neighboring town stays low? If you only bought insurance for your own town, you'd still lose money because the price difference (the "spread") between the two towns is what matters. To fix this, regulators created special financial tickets called Long-Term Transmission Rights (LTTRs). Think of these as VIP passes that let you profit if the price difference between two towns gets too big. They are designed to be a safety net for anyone moving electricity across borders. But here's the catch: these VIP passes are supposed to be bought by the actual power companies who need the insurance. Instead, it turns out that financial traders are buying them up, often for a bargain price, and then using them to make easy money in a way that wasn't quite intended.

This paper investigates exactly how these traders are doing it and what it means for everyone else. The author, Clemens Stiewe, looks at the electricity markets in Germany and Austria between 2018 and 2025. He uses a clever trick: he watches what happens to electricity prices immediately after the auctions where these VIP passes are sold. If the passes are being used for a specific kind of money-making scheme (arbitrage), the prices of the forward contracts should jump or drop right after the auction results are announced.

The study finds that this is exactly what happens, but only on the German market, which is huge and very busy. When traders buy these transmission rights, they immediately take the opposite bet on the forward market. It's like buying a coupon for a cheap ticket to a concert, and then immediately selling a promise to sell that same ticket at a higher price to someone else. By doing this, they lock in a guaranteed profit. The paper shows that this happens systematically: whenever the "coupon" (the LTTR) is sold for less than it's actually worth compared to the forward market, traders swoop in, buy the coupon, and sell the forward contract to capture the difference.

Interestingly, this "money-printing" machine doesn't seem to work as well in Austria. Even though traders are active there, the market is smaller and less liquid, so their actions don't move the prices enough to be easily measured. The paper suggests that the reason this works in Germany is that the transmission rights are sold at a discount, likely because the people who really need them (the actual power companies) aren't buying them in large numbers. Instead, financial traders are the main buyers, and they are willing to pay less because they see these rights as a speculative tool rather than a safety net.

The big takeaway is that this system creates a hidden transfer of wealth. The money these traders make doesn't come from thin air; it comes from the "congestion income" that the grid operators collect. Normally, this money is used to lower the bills for everyone. But because the transmission rights are sold too cheaply, that money ends up in the pockets of the traders instead. The paper concludes that while this arbitrage helps smooth out some price differences, it also means that consumers are effectively paying for the traders' profits through higher grid fees. It's a bit like a carnival where the ticket seller accidentally sells the VIP passes for half price, and the savvy kids in the back row buy them up, resell the benefits, and end up with all the free popcorn while the rest of the crowd pays extra for their tickets.