Emissions Trading

Louis Beckerling – Updated on Sep 16, 2008 – SCMP

Retail investors can get access to the emissions trading market by buying the shares of listed companies that either trade in carbon credits or invest in companies that help polluters reduce their emissions.

However, such investments are inherently risky, warn investment advisers, as indicated by the volatile price of carbon credits traded under the European Union Emissions Trading Scheme (ETS), and the performance of several counters listed on the London Stock Exchange’s Alternative Investment Market.

Following its inception in 2005, as a market on which to trade carbon credits in a bid to put a price on pollution and reduce carbon dioxide emissions, the ETS exploded into activity, providing trading opportunities for credits owned by about 12,000 carbon emitters across Europe.

In its first year of operation, 362 million tonnes of CO2e (carbon dioxide emissions) were traded for €7.2billion (HK$81.45 billion). In the flurry of activity the price of a tonne of CO2e reached a peak of about €30 by the spring of 2006.

But the market was vulnerable to protectionist forces.

“It seemed to work, but brokers had not counted on the politics. Various national governments, anxious to protect their domestic industries, generously issued emission credits for free. This flooded the European market with too many credits,” says Allianz Knowledge, a research unit of global insurer and asset manager Allianz Group, that focuses on climate change, microfinance and demographic change.

The result was a meltdown in the value of the credits as the price of a tonne of CO2e plunged to below €10 within weeks, and by September last year to just 10 euro cents. Alarmed at the prospect of giving polluters a free pass at such prices, and what that would mean for its commitments to reduce carbon emissions under the Kyoto Protocol, European governments then set an EU-wide CO2e cap of 2.08 billion tonnes for 2008-2012 – 10 per cent below the aggregate allowances sought by member states – and pledged to reduce the issue of free credits.

That sent the price of a tonne of CO2e back to €23 by the end of last year, and analysts now expect the price to reach about €30 to €35 per tonne this year, Allianz says.

The moral of the story for those intending to invest in Australian Emission Units? Caveat emptor.

Australia is the latest country to get into this potentially rewarding asset class but the fluctuation in carbon credits suggests a cautious approach

Louis Beckerling – Updated on Sep 16, 2008 – SCMP

Energy suppliers are getting the message that they will no longer enjoy a free pass to pollute the atmosphere as a regulatory trend to put a price on the emission of carbon dioxide gathers momentum around the world. Markets are being left to establish what those prices should be so investors have a new and potentially rewarding asset class in which to invest. But the roller-coaster ride taken by the price of carbon credits traded since 2005 under the European Union Emissions Trading Scheme (ETS) suggests they should proceed with extreme caution.

The latest country planning to join the club of carbon trading nations in Europe is Australia, which aims to have an emissions trading system in place within two years. By the time it is up and running in 2010, notes financial consultancy Ernst & Young, the new market will have yielded a number of investment opportunities.

“With the scheme commencing in 2010, we expect a range of new products and services to emerge in the next few years,” says Ernst & Young in a report on the proposed scheme.

Also on the cards, it predicts, is the emergence of derivative investment products based on the carbon trading permits that will be required by polluters. Australia’s largest energy provider, Australian Gas Light (AGL), has already created such a derivative instrument. It did so by taking a punt on what price the market might place on an “Australian emissions unit” that forms the cornerstone of the proposed trading system and will be equivalent to one tonne of C02e or carbon dioxide emissions.

Just weeks after the government signalled its firm intention to push ahead with an emissions trading scheme by releasing a detailed timetable on March 17, AGL announced that its operating arm AGL Hydro Partnership had sold 10,000 tonnes of AETUs at a price of A$19 (HK$128) per tonne for settlement on February1, 2012.

The forward contract has been designed to achieve a number of outcomes, the group says. “First, we will be able to provide some certainty for customers that fall within AGL’s `Major Customer’ portfolio that wish to lock in retail energy pricing now. Second, by providing the opportunity for electricity market participants and other wholesale parties to access a carbon price, it may enable some additional liquidity to be restored in forward electricity contracts beyond July 2010.”

With much of the detail yet to emerge and the business lobby either opposed to the scheme or intent on having it delayed, there has been no trade in the exploratory contract.

But with the environmentally conscious Australian public solidly behind the government’s initiative and the latest study by the United Nations Environment Programme (Unep) providing encouraging signals to the environmental lobby that energy companies are accepting their responsibilities, there is little doubt that the government will push ahead with its plans.

Climate change concerns, growing support from world governments, rising oil prices and ongoing energy security concerns combined to fuel a record-setting year of investment in the renewable energy and energy efficiency industries in 2007, Unep says in a report released on July 1.

Executive director of Unep Achim Steiner says: “The clean energy industry is maturing and its backers remain bullish. These findings should empower governments – both north and south – to reach a deep and meaningful new agreement by the crucial climate convention meeting in Copenhagen in late 2009.”

The report titled Global Trends in Sustainable Energy Investment 2008 was prepared by Britain-based New Energy Finance for Unep’s Paris-based Sustainable Energy Finance Initiative and finds that more than US$148 billion in new funding entered the sustainable energy sector globally last year – up 60 per cent from 2006.

Wind energy again attracted the most investment (US$50.2 billion last year), but solar power grew most rapidly – attracting US$28.6 billion of new capital and growing at an average annual rate of 254 per cent since 2004, driven by the advent of larger project financings, it notes.

“Just as thousands were drawn to California and the Klondike in the late 1800s, the green energy gold rush is attracting legions of modern day prospectors in all parts of the globe,” says Unep’s Mr Steiner, who is also a United Nations undersecretary general. The “three pillars” outlined in the Australian government Green Paper published on July 8 and on which its climate change policy will be based, will be strategies to reduce Australia’s greenhouse gas emissions – to adapt to climate change that cannot be avoided and to help shape global solutions. It has committed to reducing Australia’s greenhouse emissions by 60 per cent by 2050 and says an emissions trading system is central to meeting that target.

Based on a formula yet to be calculated, a stock of carbon permits known as Australian Emissions Units (AEU) will be established with each unit registered with a unique ID number and equivalent to one tonne of CO2e. Controversially – given the experience in Europe – it has announced that qualifying big polluters will be allocated a certain number of permits free with the rest to be sold at quarterly auctions.

Commercial farmers will be off the hook at least until 2015 and the big polluters or Emissions Intensive Trade Exposed entities will be given “transitional assistance” yet to be spelled out in detail for the first 10 years after the scheme comes into operation in 2010.

Once permits have been acquired via auction or allocation, holders will be free to hold or sell permits on an emissions trading market likely to be operated by the Australian Stock Exchange.

In a presentation to potential players made in June (How the financial markets will service the forthcoming ETS), the exchange said the role of the market would be to provide liquidity, price discovery, risk transfer and the clearing and settlement of trades. It envisages the trade of ASX Emission Permit Futures in lots of 1,000 carbon emission permits, with each permit being an entitlement to emit one tonne of carbon dioxide equivalent gas.

Corporate Australia, not surprisingly, has expressed alarm at the prospect of a having to pay for emissions. Business-oriented think tank The Australia Institute warns that cost increases arising from the introduction of an emissions trading system may amount to US$1.4 billion a year.

But, with the voting public solidly behind the plan, business appears to be bracing itself for the introduction of the scheme.

Eric Ng and Reuters in Beijing – Updated on Aug 07, 2008 – SCMP

Changsha yesterday became the third mainland city in two days to announce an emissions trading scheme designed to penalise polluters and encourage greener sources of power through pollution credits.

The capital city of Hunan province will set up a local emission trading scheme covering a variety of waste gases and water pollutants, with plans to set up a trading market, Reuters quoted mayor Zhang Jianfei as saying. The system could be in place as soon as next year.

Quotas for dust, carbon dioxide and chemical oxygen demand – a water pollution measure – would be assigned to local districts. Those failing to meet the quotas would be fined, unless they purchased quotas from polluters that had credits to spare.

The announcement came a day after Beijing and Shanghai both launched emissions exchanges.

China Beijing Environment Exchange chairman Xiong Yan said that the exchange would lay a foundation for China to use market-based methods to reduce pollution and save energy by enhancing transparency and information flow.

“There is huge potential in the environment exchange market of China,” he said. “However, the asymmetric information and lack of expertise in Chinese enterprises result in a serious undervaluation in environment exchange products.”

The Shanghai Environment and Energy Exchange was also inaugurated on Tuesday.

Xinhua quoted unnamed municipal officials as saying that the city plans to launch an emission quota allocation and trading system for heavy-pollution-prone sectors.

In addition, some 55 environmental protection and alternative energy projects involving 1.07 billion yuan (HK$1.22 billion) of investment are planned to be listed on the exchange to attract new investors.

They are currently listed on the Shanghai United Assets and Equity Exchange.

Tianjin was also planning to set up an environment and energy exchange, China Daily reported.

Simon Powell, CLSA’s head of regional power, gas and utilities exchange, said news of the exchanges was not unexpected. Several pilot arrangements have been set up on the mainland for voluntary sulphur dioxide and particulates emissions reduction.

“As to the impact on power companies, it would depend on the level of the emission cap to be imposed, the timing and whether it is voluntary or mandatory,” said Mr Powell.

“It is possible that the mainland may adopt a voluntary scheme on sulphur dioxide, nitrogen dioxide and particulates but not carbon dioxide.”

28 Jul 2008 | Author: Rajesh Chhabara – ClimateChangeCorp.com

The Asian economies want a piece of the world’s carbon trading action. The move adds further threat to carbon brokers dealing in over the counter carbon credits

Exponentially growing global carbon trading has caught the fancy of the top financial centres in Asia. Hong Kong, Tokyo, Singapore, Mumbai, Shanghai and Beijing are reported to be considering opening exchanges for trading carbon credits. But analysts warn that it may be too early for Asia to join the party unless the key economies in the region create local demand for credits.

There is a growing recognition of carbon as a soft commodity that can be traded as carbon credits and in the form of other complex financial products, such as derivatives and exchange traded funds.

According to Oslo-based research firm Point Carbon, the global carbon trade crossed €40 billion in 2007, a growth of 80% over the previous year. In terms of volume, 2.1 billion tonnes of carbon dioxide equivalent credits were traded, a hefty 64% increase over 2006. Carbon trading is estimated to hit €100 billion in 2008.

The global carbon market could be worth €2 trillion by 2020, says Point Carbon, if a greenhouse gas cap and trade scheme takes off in the US.

However, Asia’s role in global carbon trading has remained limited as a supplier of carbon reduction emission (CER) or carbon credits under the Clean Development Mechanism (CDM) of the United Nations Framework on Climate Change Convention (UNFCCC), which was born out of the Kyoto protocol.

CDM allows reduction in greenhouse gases achieved in developing countries to be sold as carbon credits to developed countries, which have ratified Kyoto protocol, to help them meet their emission reduction targets.

China alone accounts for 61% of global supply of CERs followed by India with a 12% share. China, India, Malaysia, Thailand and South Korea together generate a staggering 80% of all the CERs. Almost all the CERs are currently purchased by European companies and governments to meet their own emission reduction targets under the Kyoto protocol.

The bulk of the CER trading takes place through brokers, bi-lateral agreements and personal negotiations. Asia does not have any real trading platforms or exchanges for banking or transacting carbon credits.

Asian ambitions

Asian financial centres now want a piece of the action. The Hong Kong Stock Exchange is going over a feasibility study it commissioned toward the end of last year to determine how to position itself in the carbon trading market. Chinese authorities are working on their own plans for a carbon trading platform.

The Multi Commodity Exchange of India – the country’s largest commodities exchange, which has a strategic alliance with the Chicago Climate Exchange – launched futures trading in carbon credits in January this year. Carbon credit futures are exchange-traded derivatives or standard contracts, allowing the buyer and seller enter into a legally binding agreement to buy or sell carbon credits at a certain price to be delivered at a certain date in the future. Futures protect the contracting parties against a price risk.

The South Korea Stock Exchange plans to launch carbon trading sometime this year. Singapore is aiming to become Asia’s carbon trading hub and is offering tax incentives to carbon trading firms. It is banking on its robust financial institutions and proximity to CDM projects in South-east Asia.

Though most players are tight-lipped about their plans and the scope of trading, market sources say the exchanges may be looking at a variety of options. “Trading in CERs, Voluntary Emission Reductions (VERs) and derivatives are the obvious possibilities,” says Rahul Kar, KPMG’s sustainability services manager in Singapore. Derivatives are complex financial instruments based on the value of underlying assets, which in this case are carbon credits. Types of derivatives include futures, forwards, options and swaps.

The VER market is small, but has the potential to grow. Hong Kong-headquartered Cathay Pacific airlines recently introduced carbon offset options for its passengers using VERs. The airline is buying VERs from greenhouse gas emission reduction projects, mainly in China, which are verified using Voluntary Carbon Standard, developed by The Climate Group, the International Emissions Trading Association and the World Business Council for Sustainable Development. Other companies may follow suit to cater to green demands of their customers, or simply to put forward a socially responsible image.

“Hong Kong can possibly aggregate CER volumes from South Asia and South-east Asia and trade them on the exchange for international buyers,” says Marco Monroy, president and chief executive of MGM International, a leading carbon credit project developer.

China trades up

Last year, the governments of Hong Kong and Guangdong province in China agreed to work on a pilot emission trading programme to reduce sulphur dioxide emissions from industries that want to address pollution over the Pearl River Delta.

In another development, the Chinese government announced in June this year that local companies in Hong Kong can now participate in the CDM projects and sell CERs resulting from projects undertaken within Hong Kong. However, Hong Kong companies are still not permitted to generate CERs from CDM projects by their subsidiaries in the mainland China. China has barred companies in Hong Kong, Macau and Taiwan from participating in the CDM projects in the mainland and treats them as foreign entities.

In spite of sitting next to the world’s largest supplier of CERs, a carbon trading exchange in Hong Kong cannot bank on carbon credits from China. China requires all CDM developers to pre-sell all CERs to foreign buyers, who are almost always European entities, above a floor price set by the government, before approving a project. This means primary CERs will not be available for trading on a Hong Kong exchange.

In China, Beijing and Shanghai are competing to take the lead. Another province, Tianjin, even entered into negotiations early this year with the Chicago Climate Exchange to set up a carbon trading bourse in partnership with China National Petroleum Assets Management and the Tianjin Property Rights Exchange (TPRE). However, the deal fell through in June on account of disagreements on the foreign ownership of the exchange.

Last year in February, China announced two carbon trading initiatives. The first aimed at setting up a carbon trading exchange in Beijing in joint venture with the United Nations Development Fund (UNDP); the second involved $1.7 million carbon finance for 12 western Chinese provinces to educate them in carbon trading. However, sources say there has been no progress on the UNDP-partnered plan.

Peng Zhiyuan, managing director of China Beijing Equity Exchange, who was in Singapore in June for a carbon markets conference, said: “We are working on the model and will be introducing carbon trading in the near future”.

China Beijing Equity Exchange is different from Shanghai Stock Exchange. It deals only in state-owned equity transactions: investors willing to buy government-owned companies’ equities go through here. Shanghai Stock Exchange is the national exchange and operates as any other stock exchange in the world.

Both of them plan to have carbon trading. But at this time, it’s not clear how they will position themselves and what will be traded on them. Both are under different regulatory bodies.

For a local exchange to be successful, China will need to change its CDM policy and allow project developers to sell the credits through a local exchange. If this happens, European buyers will have to buy Chinese CERs on a local exchange rather than through bi-lateral agreements with project developers. A China-based exchange will also make brokers who currently play a crucial role in match-making between buyers and sellers redundant. Most of them are European, such as Eco Securities and TFS Green.

Observers say carbon trading in China will benefit local CDM project developers and increase their access to carbon markets. “A local exchange will reduce the transaction cost and bring more transparency to CER pricing,” says Chen Dongmei, the climate change and energy program director of WWF China. Since the bulk of CER trade takes place through bi-lateral agreements, a central database of price movements is not available. Sellers often complain that the brokers only protect the interests of buyers. But if credits are traded on an exchange, daily prices and volumes are available in real time. Exchanges can also develop indices reflecting the price movement. Industry sources say that, currently, prices of primary CERs (yet to be issued) are in the range of $9-$23 a tonne, though no official figures are available.

There are sceptics of China’s trading plans. A market analyst in Hong Kong said on condition of anonymity that China, unlike Hong Kong, does not have an open and efficient financial market infrastructure. The analyst said China would find it hard to convince international buyers to shop on Chinese carbon trading exchanges.

“It will be best if China encourages Hong Kong to explore emissions trading as Hong Kong is the one market on Chinese soil that is not a closed market, while Shanghai still is,” says Christine Loh, a former legislator and the chief executive of Civic Exchange, a Hong Kong based environmental advocacy group.

Chinese financial markets are heavily regulated, protected from foreign competition and underdeveloped, while Hong Kong is a mature and robust international financial centre with hardly any barriers for foreign businesses and no restrictions on capital flow. Hong Kong has been ranked first in terms of economic freedom for 14 years in a row by the Heritage Foundation, a Washington think tank, which publishes an annual index of economic freedom and rates 157 nations.

Hong Kong Stock Exchange is said to be considering emission related-structured products that may include contracts, options and futures. It also plans a listing of green Initial Public Offerings (IPOs). According to a press release by the Hong Kong exchange, green IPOs will involve “listing companies that provide products and services which help to reduce emissions”.

Hong Kong Exchange has also said it is exploring the potential for establishing an auction platform for CERs.

Japan’s cap and trade

Japan is planning an EU-style cap and trade mechanism, announced by the prime minister in June, which can set the stage for a promising carbon market in the country. The city of Tokyo is also considering a cap-and-trade scheme to reduce emissions.

Japan has until now encouraged industries to voluntarily reduce emissions rather than imposing binding targets.

Tokyo Stock Exchange, the world’s second largest bourse, has said it is planning a carbon trading platform. Currently, Japanese companies buy CERs directly from project developers in developing countries or through brokers. A local exchange can reduce transaction costs.

However, Japanese industry associations have opposed the cap-and-trade plans, saying that tougher emission targets will prompt businesses to shift production to developing countries.

Monroy of MGM International says: “It will be cheaper for Japan to import CERs rather than use cap-and-trade to meet compliance obligation. Efficiencies are already high in Japanese industries and achieving further emission efficiency, which will be needed if cap and trade is imposed, will be very expensive for the industry.”

Creating local markets

Some CER project developers are wary of an emissions exchange. Monroy says: “It is too early to have an emission trading exchange in China. An exchange requires liquidity. Both supply and demand are needed for liquidity and China currently does not have demand for carbon credits.”

Market analysts are similarly sceptical about Asia’s carbon trading dream. Though Asia has a large supply for CERs, there is no local demand in the region except from Japan, which remains the sole buyer of CERs in Asia to meet its Kyoto obligations. Other Asian countries still do not have regulations requiring companies to reduce emission or buy credits.

An exchange requires liquidity which comes from a healthy match of demand and supply. The European Climate Exchange (ECX) and Chicago Climate Exchange (CCX) thrive because they have local demand and supply due to the cap-and-trade mechanism. CER is only a small part of their total trade and accounts for only about 20% of global emissions trading.

Roger Raufer, an emission trading expert who worked on the feasibility report for the Hong Kong Stock Exchange, says: “Asia needs to develop its own carbon trading markets rather than simply copying the European or the US markets. It needs to create its own demand based on local emission issues and solutions.”

The story is different in Europe. The European Union’s Emission Trading Scheme (ETS) was launched in January 2005 as a result of Kyoto protocol, before the UNFCCC’s CDM took shape. A cap-and-trade mechanism was introduced covering energy intensive industries. Companies in these industries are issued an allowance for carbon dioxide emissions. If they emit more, they must buy carbon credits, known as European Union Allowance (EUA), from those who have polluted under their allowance, or face a heavy fine.

The ETS created a huge compliance market for carbon credits. The EU later allowed companies to import CERs to meet compliance when the CDM was introduced.

In the process, the ECX and Oslo-based Nord Pool emerged as the largest carbon trading exchanges in the world. According to carbon research and rating firm Idea Carbon, ECX accounted for 87% of global carbon trading in 2007.

The total value of EUAs traded last year was $43.8 billion, most of it transacted over the ECX, while Nord Pool accounted for $1.6 billion worth of EUAs and CERs. In the US, which did not ratify the Kyoto protocol, a voluntary carbon offset market came into operation. The CCX, which was launched in 2003, has become a significant player for trading in VERs and emission reduction related structured products.

Liam Salter, head of climate for WWF Hong Kong, points out that the CDM market is too uncertain to base a trading exchange upon. “The number of CDM projects can fall if the post-Kyoto scenario remains unclear,” he says. Kyoto protocol expires in 2012 and international negotiations are dragging on to decide the post-2012 mechanism.

Finance Asia – By Lara Wozniak, | 24 July 2008

The majority of Hong Kong people who travelled overseas in the past year took no action to address the negative impact of their trip. HSBC aims to change that.

Don’t know how to buy carbon credits to offset your jetting around the region? You’re not alone. But HSBC is offering an insurance policy plan that won’t break your bank and may help cut pollution in Hong Kong.

In a recent HSBC Insurance survey on green travel, 80% of Hong Kong travellers said they did not do anything to offset the carbon dioxide emissions resulting from their travel activities; even as 90% believed that carbon dioxide emissions are harmful to the environment.

When asked about the reasons why they did not do anything, close to half (47%) said they were not aware of any carbon dioxide emissions-offsetting programmes or schemes; 24% did not care about offsetting; 16% did not know that travelling caused damage to the environment; and 13% could not afford the extra amount to pay for environmentally friendly products and services.

On average, the more than 500 respondents in the survey conducted by The University of Hong Kong’s Public Opinion Programme travelled 3.6 times during the past 12 months.

When asked about future plans to offset carbon dioxide emissions from travel, more than half (54%) said that they had no such plans, compared to 32% who answered in the affirmative.

“It appears that the concept of green travel has not caught on among the majority of Hong Kong people who travel,” says Jason Sadler, managing director for HSBC Insurance’s Hong Kong business. “It is alarming, especially as environmental protection and air quality have become priority concerns for the Hong Kong community. However, the survey also shows that a big part of this apathy is due to factors such as lack of awareness about their choices and high costs of going green.”

Of those who said they were willing to pay more for environmentally friendly travel products or services, the average amount that respondents would pay is HK$167 for every HK$1,000 spent on a single trip.

Not surprisingly, given HSBC was connected to the survey, it has a solution that uses Hong Kong technology and benefits the city – its Let’s Travel Green donation programme.

In this plan, 1% of the insurance premiums paid by customers who buy or renew single or multi-trip travel insurance policies from HSBC from now until June 2010, will be automatically donated to fund the use of ‘eco-blocks’ in the buildings and pavements of 10 non-profit organisations in Hong Kong.

HSBC Insurance says it will donate about HK$2 million on behalf of customers to this project. The ‘eco-block’ is a material invented by a team of researchers led by professor Poon Chi-sun of The Hong Kong Polytechnic University’s Department of Civil and Structural Engineering and its Research Centre for Environmental Technology and Management.

Made from recycled glass and ash with a coating of titanium dioxide, the ‘eco-block’ has pollutant-busting properties that break down certain harmful chemicals in the air. Used as a paving andpartitioning material for buildings, streets and pavements, the ‘eco-block’ contributes to improved air quality by removing air pollutants emitted by cars, trains, airplanes and other vehicles.