OPINION: Energy market risks have not learned from 2022

Energy markets are facing a sustained period of elevated uncertainty, that is showing no signs of easing. The industry has repeated an old mistake of treating credit risk and liquidity management as a reactive measure rather than a routine discipline. While energy firms are more robust now than four years ago, it is unclear whether the market could withstand a similar shock today.

The 2022 crisis was triggered by a severe physical shock. Europe lost a significant share of its gas supply as Russian flows collapsed which sent prices soaring to unprecedented levels. But while the origins of the crisis were physical, the severity of the disruption exposed financial vulnerabilities across the market. Margin requirements surged well beyond market stress tests and ultimately required some governments to intervene in supporting energy firms.

The price rises caught the headlines, but behind the scenes the real problem was in liquidity and credit risk management. The crisis played out over several months, but it had been building for years, as firms entered the period without sufficient resilience.

It is tempting to assume that the market is now better prepared. Europe has diversified supply, expanded LNG capacity, and reduced reliance on single sources of energy. These meaningful improvements should mitigate the risk of a repeat supply shock. However, they do little to address the financial mechanisms that amplified the last crisis. When volatility rises, margin calls follow and firms are not well-placed to adapt to this.

The recent energy market shock caused by the conflict in the Middle East caused credit risk to increase. Firms prioritised access to liquidity, as shown by large trading houses securing credit facilities to meet potential collateral demands. But just because firms were able to cope does not mean risk is being managed efficiently.

The underlying issue is that much of the energy market still approaches optimisation of credit and liquidity on an ad hoc basis. In stable conditions, it is often deprioritised. When volatility spikes, attention returns to credit and liquidity. By then, much of the cost is already locked in. Optimisation is most effective when it is continuous, not when it is deployed in response to stress.

This challenge is particularly acute in energy markets because of its structure. Unlike banks or large financial institutions, energy firms typically are limited in their credit options. Cash is expensive, with many energy firms rated in the high yield bracket. And while letters of credit are widely used in bilateral markets, they do not eliminate risk.

In periods of stress, breaching credit limits can restrict trading and potentially force liquidations. Firms without sufficient access to funding may come under pressure regardless of the quality of their underlying positions. Larger participants may be better able to withstand this, but smaller firms could face disproportionate challenges.

Optimisation involves determining full portfolio risk, in both cleared and bilateral contracts and positions in other related assets. Firms can end up posting significant margin on positions while holding offsetting exposures elsewhere in their portfolios. The result is unnecessary liquidity pressure.

The key lesson is that optimisation should be treated as a normal part of risk management. It should sit alongside hedging, collateral management and credit control as a continuous process. Over the regular course of trading, firms will take on more liquidity and credit risk than their net overall positions require. Regular cycles of optimisation keep that to a minimum.

Importantly, risk in energy markets is not confined to extreme events. Over the first quarter of 2026, initial margin for front month contracts rose 50%.

Energy firms also face higher credit risk, as the need to physically deliver the power or gas pushes them to bilateral and over-the-counter trading. Credit risk therefore needs to be proactively managed and portfolios continuously optimised.

With two energy shocks in the past four years, firms need to take more seriously the importance of optimisation. Emergency management of credit and collateral risk in times of crises has proven to be inadequate, with the worst-case scenario requiring government intervention. By making credit optimisation a day-to-day practice, firms can reduce risk in more benign times and keep more options open whenever the next shock arises.