Once-Unpopular Carbon Credits Emerge as One of the World’s Best Investments

Source: By David Hodari, Wall Street Journal • Posted: Tuesday, August 13, 2019

Heat wave in Europe drives carbon-credit prices to near record high

The price of the credits, doled out by governments in Europe to polluting power plants and steel mills to curtail the production of greenhouse gases, has soared more than fivefold over the past two years.

Prices are up strongly again this year and near a record of about €30 ($33.60) a ton of carbon dioxide emitted. Driving prices higher is a combination of a shrinking supply of credits and a hot summer in Europe, which has put big demands on power plants that are legally required to hold the credits to operate.

The recovery has drawn back investors who largely abandoned the market when prices collapsed last decade.

“It’s attracting hedge-fund speculators,” said Norbert Rücker, head of economics at Swiss private bank Julius Baer. “With this move, carbon has really come back to life this year and it’s attracted a lot of interest—we have clients reaching out to us asking about it.”

The resurgence in carbon-credit prices began in mid-2017 when EU policy makers agreed to sharply reduce the number of available credits. That has pushed up prices and allowed the carbon market to help fulfill its purpose of punishing excess polluters. With the market set up to constrict credit supply, prices should rise further still, analysts say.

The idea of a trading program was first enshrined in the 1997 Kyoto Protocols. The EU launched its program in 2005, granting credits to individual countries, who in turn pass out credits or auction them to carbon-producing companies, like steelmakers and power plants, which can either use or trade them. For every ton of carbon the polluters generate, regulators require them to possess a credit.

An excess in credits in recent years caused prices to plunge as industry suffered across the continent during the financial crisis, leaving unused credits in the system for years afterward.

For the five years to January 2018, ICE European emissions futures languished below €10 a ton of carbon dioxide produced. Surplus annual allowances peaked at around 2.5 gigatons of carbon dioxide in 2013, while the footprint for powering Europe’s industry and homes was around 1.7 gigatons, according to Energy Aspects.

That prompted the EU to reduce the number of credits in the system by 24% each year for the five years starting in 2019.

Prices have shot up since the reforms were agreed on. Fresh interest from speculators has also boosted prices, creating a “positive feedback loop,” according to Tom Lord, a trader at London-based carbon risk management company Redshaw Advisors, which advises and trades carbon on behalf of polluting companies.

“The market as a whole and our customer base for sure is more interested. That’s industrial installations but also speculators,” Mr. Lord said.

Other factors are holding back the supply of credits. Germany’s environment minister said last month she would back canceling the credits held by power plants that have shut down, instead of allowing them to flow back into the market.

The minister’s comments preceded a European Court of Justice ruling that part of an Exxon Mobil Corp.natural-gas processing plant should be classified as an electricity generator—a decision that could cut the number of free carbon credits it receives.

The higher prices mean that it now costs industrial polluters almost as much to use coal as it does to use cleaner natural gas. Putting the two markets on an equal footing means carbon prices are driven by factors similar to the ones that affect gas prices, such as high summer temperatures.

That has been evident in this summer’s heat waves across Europe.

Steam rises from the chimney of a coal-fired power station in Germany. Photo: Markus Scholz/dpa/Getty Images

“More air-conditioning means more demand for power,” said Jeff Berman, director of emissions and clean energy analytics at S&P Global Platts.

Brexit could also affect emissions pricing. The U.K. has been suspended from the EU Emissions Trading Scheme amid uncertainty about the manner and date of its departure from the EU, meaning the country hasn’t officially been able to disperse any credits in 2019.

A departure with a negotiated settlement with the EU would give U.K. companies plenty of time to dump their remaining credits. A “no-deal” Brexit would allow U.K. companies to sell credits back into the market provided they have registered in a different country before the date of departure. Both scenarios could temporarily weigh on the price of carbon credits.