Picasso in Italy: Experiences from the short-term trading floor

The harmonization of European energy markets is paved with good intentions but occasionally marked by turbulence. In Italy, the recent rollout of the Picasso balancing mechanism triggered problematic price fluctuations, leading to the country’s unexpected withdrawal from the platform. This development prompted other nations to also postpone their participation.

We spoke to five short-term traders at Italian firms WET and Renantis to understand how they experienced Picasso’s impact. In this article, we outline their perspectives, preceded by context on the platform’s objectives and the timeline of its unsuccessful first implementation in Italy.

What is Picasso?

Picasso stands for the Platform for the International Coordination of Automated Frequency Restoration and Stable System Operation. As the name suggests, it focuses on the automatic Frequency Restoration Reserve (aFFR), one of the reserves that help keep the power grid frequency stable.

Picasso creates a common European domestic market for balancing energy with aFFR. In a podcast from Montel, Simon Remppis, Engineer at TransnetBW, explained how this new initiative aims to increase the efficiency of the energy system and maximize social welfare. Nevertheless, he emphasized, while Picasso has been shown to maximize efficiency gains in several hundreds of millions of euros for its participants, it is not a tool to minimize prices.

The platform’s algorithm has implications for imbalance price formation—the coupling of prices through shared merit orders. Since the 2022 launch, initial joiners—the Czech Republic, Austria, and Germany—have not reported significant issues with the new calculation. However, it all changed with Italy coming on board.

Picasso in Italy

Picasso connects aFFR markets with significant differences in bidding behaviors around activation prices. Italy’s case is the most striking, with reports of sharp spikes in cross-border imbalance price settlements.

The issue is a consequence of different price methodologies. Italy had an exclusively positive merit order but found itself in a market where other countries could submit low negative bids. Neighboring Austria is particularly relevant, as the two countries form an uncongested area.

Recent months saw a lot of discussions and developments around Picasso in Italy. The image below provides a summary of the main events:

For insights into why the Picasso algorithm has produced undesirable outcomes in Italy, we recommend this analysis from market expert Jean-Paul Harreman. For short-term traders’ views behind the timeline, continue reading.

Traders’ experience

We interviewed Lorenzo Palma and Andrea Bernardi, Intraday Traders at WET AG Italy, and Giorgio Malattia and Carmelo Bongiovanni, a Power Trader and a Commodity Trader at Renantis Italy, respectively.

Beginning and expectations

The intraday traders at WET anticipated the volatility brought by Picasso due to their experience trading in Germany. They cited Italy’s unique setup with the ceiling at zero for the lower prices as the second reason why they knew that, with this implementation, extreme prices were likely.

Giorgio Malattia at Renantis recalls the timing of the implementation and the first signs of odd pricing.

“The onboarding with Picasso was during a period of high demand, which led to overlapping tight situations. By the last weeks of July and into the first weeks of August 2023 we already started to notice unusual prices.”

Two pain points

All interviewees agreed on two main challenges resulting from trading during the time Picasso was live in Italy: the negative prices and the fluctuating price signals.

Firstly, while the negative prices were not unexpected, the implementation did lead to other surprising developments. Andrea Bernardi explains:

“What was surprising was the frequency of this event [negative prices] and the complete lack of predictability, which was quite different from the other markets. We knew the prices could go negative, but not as negative as they did, and not as often, and without any sign whatsoever.”

For Giorgio Mallatia, the biggest difficulty was the low imbalance prices, leading to inefficiency and risky situations. These also occurred in periods with relatively low demand, such as the mild winter at the beginning of 2024.

Secondly, the discrepancy between preliminary and final imbalance prices led to significant shifts in profit and loss calculations. Lorenzo Palma found this strange:

“We saw many signals and many prices changing the day after delivery. During the day, you’re convinced your position is fine, and the day after, you discover it’s not. Also, the delta between the price of the day and what you discover the day after is massive. A couple of times, we saw prices pass from, for example, 180 to -2,000 as the signal turned from short to long.”

Similarly, for traders at Renantis, the difference between preliminary and final results was experienced as a “huge change.”

The price mechanism

Analysts like Silvia Mesa and Jean-Paul Harreman have linked the price dynamics in Italy to the reserve and pricing strategies of Austria and the Czech Republic. Lorenzo Palma confirms this hypothesis from experience:

“One month after the implementation of Picasso, in August [2023], we already saw some extreme prices on the short side. Then, when the cable between Austria and Italy was under maintenance in September, there were no extreme prices. As soon as the cable was back, so were the extreme prices. The link has been made clear.” 

Furthermore, Giorgio Malattia critiqued the logical inconsistencies in price coupling under Picasso:

“Before Picasso, Terna took the balancing capacity within the Italian border. Thanks to Picasso, it had access to European balancing capacity. What was inefficient for us is that we may have had the cheaper capacity, but due to the algorithm, it was not selected. Instead, the most expensive capacity, coming from abroad, was chosen.”

Finally, Lorenzo Palma thinks a third, local factor also played a role: 

“The intraday continuous market in Italy is not as well developed as, for example, the German one. It is even harder to address the big stress moments in the grid promptly. You have three auctions and some liquidity in the continuous market, but not enough to face these issues.”

Impact and mitigations

The very negative prices caused by Picasso had a significant impact on trading operations and the overall energy market.

Lorenzo and Giorgio emphasized that the problem was particularly pressing for renewable asset owners. Due to the intermittent nature of energy production, renewables are vulnerable to balancing costs.

Lorenzo Palma also reflected on the impact on larger companies:

“This [low negative prices] is particularly an issue for big players with a couple of gigawatts of installed capacity. If one gigawatt moves the wrong way at the wrong moment, you can easily go bankrupt. “

Intraday traders at WET took action to adapt to the effects of unexpected negative prices. Their mitigation strategy consisted of the following:

“A complete shift in terms of risk management and strategy to adjust to the new reality; expect the unexpected and try to prepare for it. We also decreased the size of our positions because you cannot bear the high risk with big positions. The only way to handle this kind of issue is to be extremely careful.”

Besides their internal strategies, traders at Renantis complemented their strategy with Dexter Energy’s forecast and trade optimization solutions. Giorgio remembers the precise day when being “on the right side” of the market was crucial:

“On the 4th of February this year, on a weekend, prices went to -4,000 in the North and -5,000 in the South, a huge, unpredictable jump. Luckily, our strategy, based on statistics and supported by Dexter’s solutions, performed quite well in that period.“

The way forward

For now, traders feel “relieved” that “the price behavior is back to normal.” And, there is consensus on what a successful implementation of Picasso requires: more clarity around the algorithm. In Lorenzo’s words:

“Transparency is key.“

Learnings

According to the latest implementation roadmap, most European countries are expected to join Picasso by the end of 2024. It remains to be seen whether that will go as planned. Italian regulator Arera said the country would rejoin after corrective tweaks are made to the system.

The failed implementation of Picasso in Italy underpins the need for comprehensive price regulation in energy grids. It is also a relevant story to learn from as markets are harmonizing across Europe.

For the traders interviewed in this article, being vulnerable to price incidents and risking unexpected losses were immense challenges in the past months. Nonetheless, price risk can turn into financial opportunities with advanced, AI-based bidding strategies.

At Dexter, we feel rewarded for supporting short-term trading desks in Italy through the storm. Contact us if you’d like to learn more!