The EU decided a long time ago that in order to be effective in reducing pollution, it must set a price for carbon, and that price must rise over time. Some of the world’s largest oil traders and Hedge fund Managers seem to believe it now.
In the past four months, the price of European CO2 certificates – tradable securities that determine how much it costs power plants and industry in Europe to emit a ton of carbon dioxide – has increased rose to a record high over 30 €. In turn, they have increased the cost of pollution for businesses such as electricity utilities, and will soon do so for manufacturers of Products such as cement and steel.
For veterans of the niche carbon trading industry founded 15 years ago, the price hike made little sense. Have coronavirus lockdowns and the resulting deep global recession Lower emissions across Europe as factories have slowed down and electricity demand has decreased. They argue that prices should not rise but fall.
But The market continues to developThis is attracting a new generation of traders who are less concerned about short-term factors like whether the market is oversupplied this year. Instead, they see an opportunity to benefit from a market whose direction will ultimately be determined by policy and support for a post-pandemic “green recovery”.
“The EU carbon price could easily reach EUR 40 by 2022,” says Florian Rothenberg from the raw materials consultancy ICIS. “But if financial investors and speculators believe this, the price could easily get much higher.”
Renewed interest in the EU carbon market could be significant Effects on European Industry. At around 25 euros per ton, the price of carbon is already high enough to displace coal from the power grid, and energy suppliers are switching to environmentally friendly natural gas or carbon-free renewable energies.
Traders suspect the next stage is for the price of carbon to rise high enough – between $ 40-50 per tonne – to force other sectors to invest in cleaner technologies and fuels – good for the environment but a seismic change for the industry, the implications of which are not yet fully understood.
The hedge fund manager Pierre Andurand is considered one of the in the industry most successful oil traders his generation. After making more than 150 percent profit in the first five months of the year by successfully betting against the price of oil, he’s now redirecting a small portion of his $ 600 million fund into carbon.
“We feel comfortable over a five-year period that the price has to go up – that’s pretty much a guarantee,” says Andurand. “As long as the EU maintains this commitment to fighting climate change and harnessing the carbon market, we are confident that prices will rise.”
He is not alone. Vitol, the world’s largest independent energy trader, is expanding its five-strong carbon team. And as a sign of how important it is for the market to become, it has hired the former head of European gas – one of its major moneymakers outside of its seed oil business – to run the business.
Some of the world’s largest hedge funds like Brevan Howard and Citadel play a bigger role, according to competing traders, while banks like Morgan Stanley, Macquarie and Citi are steadily building their teams, trying to capitalize on increased client activity and in-house trading.
It is also reported that insurers and pension funds have a greater interest as potential protection against climate-related parts of their portfolios.
For Erik Petersson, Senior Managing Director in the Commodities and Global Markets team at Macquarie Group in London, investors’ renewed interest in carbon is a natural response to signals from politicians.
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In the face of a deep recession, despite the costs involved, the EU has not wavered, if at all, from its commitment to fighting climate change, which has doubled its emissions reduction efforts across the continent. The revised goal is to reduce greenhouse gas emissions by 50-55 percent by 2030 from 1990 compared to the current target of 40 percent.
“The market has drawn new attention in the past 12 to 24 months due to political announcements for 2030-2050 in which the EU sets CO2 targets,” says Petersson. “They are some time away, but they paint a picture of a stronger price of carbon, which is essentially needed to meet these goals.”
The expectations of where the price could ultimately settle vary widely. However, in more than a dozen interviews with hedge funds, banks, and investors working in the sector, none said prices would fall significantly. The only differences were in how far they could go, in what time frame and how great the political risk could be if sentiment in Brussels changed.
For much of European industry that has been concerned for decades Oil and other fuel prices As one of their main production costs, it requires a dramatic change in mindset. With oil prices likely to remain relatively manageable over the next few years and with sufficient supply available below $ 60 a barrel, the price of carbon could have a far greater impact on their wealth, especially if the EU cuts the number of loans or “free” European ones Emission Certificates (EUAs) available to industry.
“The carbon mechanism is already pushing heat generation and the next carbon cut is likely to come from the industrial sector,” says Petersson. “In order to reduce their carbon footprint and encourage investment, a much higher carbon price must be achieved.”
Leverage of the EU
Traders estimate that the price may have to double to around EUR 50 per tonne in the coming years to fully realize the EU intended impact. You compare the situation in the EU Emissions Trading Scheme (ETS) to the oil market at the beginning of this century, when a handful of investors realized that a decade of underinvestment in new production and China’s rapid rise would mean prices go up.
Despite some volatile swings along the way, these trades ultimately made a fortune when crude oil prices rose from $ 30 a barrel in 2003 to $ 147 on the eve of the financial crisis.
However, the comparison is not accurate. The difference in the carbon market is that the EU has essentially all the levers of supply, setting the rules and deciding how many EU carbon allowances or credits to be released or absorbed in order to affect price over time. It has been compared to a charged Opec in which the EU does not ultimately control everything, as the cartel does in the global oil market, but ultimately controls everything.
That doesn’t mean it isn’t a real market. In the short term, buyers and sellers often react to the usual signals of supply and demand. If the economy slows and emissions fall, more participants are likely to sell, as seen this spring when the coronavirus slowed demand and Prices fell nearly 40 percent from € 26 to € 16 per ton.
If the price falls too much, or possibly rises too high, the EU has the option to tighten or loosen supply through the ‘Market Stability Reserve’ (MSR) introduced in 2019 to actually reset the market after it went under the weight of the during The oversupply built up during the financial crisis.
Nima Neelakandan, director of environmental trade at Morgan Stanley in London, says what is happening to prices is an attempt by the market to find a “new balance” that comes from a fundamental shift in expectations of climate change aspirations EU is driven. These ambitions are very often confirmed today by companies from big oil to big tech trying to respond to calls from investors to do more to address climate change.
“How much emissions we want to reduce by 2030 and then by 2050 has become a matter of debate. These are very long-term goals so the market is trying to rebalance itself, ”says Neelakandan. “The political direction and the ambition have become much clearer. And it’s not just the ambition of the EU, but of companies around the world. “
The crunch moment is expected next year. The ETS covers around 45 percent of the emissions in the block, mainly from utility companies and large industrial companies. However, it is likely that other sectors such as shipping will come under their jurisdiction as the distribution of free credit decreases, the demand for allowances increases and, in theory, the price increases.
“The EU wants to involve more sectors, and it wouldn’t if it didn’t believe that the EU ETS has been a success so far,” says Neelakandan. “That’s all that goes into the latest price campaign.”
However, there is concern in parts of the EU that carbon could become a one-way bet for speculators. And that the real world is affecting a price rising too fast could range from Closure of coal-fired power plants in Poland impose additional taxes on European industry when the economies affected by the pandemic are already weak.
The thought of hedge funds or banks getting carbon rich while other industries struggle is uncomfortable for some politicians, even if they support the longer-term goal the cost of pollution more expensive.
“Some people may be betting on heightened climate change ambitions in the EU, but they want the EUA price to reflect market decisions rather than speculators,” Bas Eickhout, MEP of the Dutch Greens, told Carbon Pulse, an industry publication, in July.
When Peter Krembel came along RWE – one of the largest energy suppliers and polluters in Europe – in 1999, its line of business was treated as an afterthought by a company that had no problems making steady income from its business Fleet of coal power plants as well as gas and nuclear power plants.
“I was transferred to this third tier operation,” says Krembel, now chief commercial officer for RWE’s delivery and trading department. “Stuck in the basement of headquarters, we were an appendix at best.”
Two decades in his unit employs 1,600 people and flows into all facets of the corporate strategy. In essence, he serves as an alchemist for the broader group. It has turned an unprofitable coal business into the foundation of a carbon trading machine that can help smooth out RWEs Moving to a Cleaner Company.
RWE has recently bought enough emission credits to fully secure its commitment in the emission price for the next three years. This is an example of how carbon has forced companies to become more nimble by requiring brisk trading to source cleaner supplies for customers, while increasing profits through additional speculative positions. The trading line, which also covers electricity, gas and other fuels, achieved a third of the company’s adjusted earnings of EUR 2.1 billion in 2019.
Mr. Krembel argues that restricting carbon trading would distort the “price signals” companies need to make the right investment decisions.
“These markets have to be well organized and regulated, but the composition of the market participants is not a problem for us,” he adds. “We need the depth and liquidity that additional participants bring with them in these markets. A market shouldn’t be a mass of utilities – that’s toxic to the whole industry. “
Others argue that the claim that dozens of funds are driving the price up is an exaggeration. Energy Aspects, a consulting firm, said in July that limited data available on positions suggests that most of the purchases made in recent months have come from utilities and other industrial end-users rather than funds.
“If you want the price of carbon to have a significant impact on emissions, you need a high price – probably EUR 50 per tonne plus,” says a hedge fund manager active in the carbon markets. “Right now it’s mostly run by compliance buyers whose perspective is, ‘If you could easily see $ 50 carbon, we’d better buy it now because it doesn’t get much cheaper. “
Others question the role of the EU and whether it needs to step back from the market for trade to mature. “The supply side is completely determined by the EU – whatever they want to change happens,” says Tom Lord, trader at Redshaw Advisors. “If it’s so politically motivated, it’s not necessarily a good thing for the market.”
While some funds take a long-term view of the price, other energy traders go further. Michael Curran, Head of Emissions Trading at Vitol, says the goal is to grow in a market that is modeled on the physical oil market with arbitrage, storage and logistics businesses.
They too expect the EU carbon price to rise, but believe that over-the-counter products such as carbon offsets – like forest planting – could be the biggest growth area.
“The chance for European emission certificates could be a three or five-fold price increase in the coming years,” says Curran. “But if [the price of] EUAs are rising, it will spawn other carbon products like offsets, and there is a chance that price growth could increase 10 to 20 times over the same period. “
According to Rothenberg of ICIS, traders are aware of the implications of the EU’s long-term goals. “It looks like a good investment,” he says, “especially when you have the support of the EU.”