Carbon Market Growing
There have been green shoots amid these scorched markets, especially in the environmental space. Carbon markets are among the few areas showing significant volume growth in recent months. The reason? The carbon space is hot thanks to a new drive in the U.S. to establish a national cap-and-trade system.
Chicago Climate Futures Exchange (CCFE), the Commodity Futures Trading Commission (CFTC) regulated subsidiary of the Chicago Climate Exchange, posted its third consecutive monthly volume record in April and hit two single record volume days on Apr. 7 and Apr. 14. CCFE’s surge, at a time when other commodity sector volumes have been slumping, has been bolstered by futures and options contracts on the Regional Greenhouse Gas Initiative (RGGI), the 10-state cap-and-trade program for utilities in the Northeast which started in January.
Launched in August of 2008, 42,451 RGGI futures were traded on CCFE in April, up 96 percent from 21,648 contracts traded in March. CCFE posted total futures volume of 199,265 contracts, a 64 percent increase from March volume of 72,564. Through the first four months of the year, CCFE volumes jumped 101 percent to 271,850, from 135,334 contracts a year earlier. RGGI options volumes fell 31 percent to 2,200 contracts in April, from 3,000 in March, which was around the time of the quarterly RGGI auction. Overall CCFE options volume dropped 10 percent over the first four months of 2009, from a year earlier.
Open interest on CCFE volumes have grown as well, from 122,359 contracts in the first four months, up 47 percent from 83,345 contracts a year earlier and up 487 percent from 20,842 contracts over the same period in 2007.
Green and growing
Prospects for more growth in the carbon and other related markets have been rising as the Obama administration continues to push for new carbon legislation. In his Earth Day speech, President Barack Obama said the best way to regulate carbon pollution was “through legislation that places a market-based cap” on emissions. That goal is supported by a cap-and-trade bill created by Rep. Henry A. Waxman, chairman of the Energy and Commerce Committee and Rep. Edward J. Markey, chairman of the Energy and Environment Subcommittee, who are aiming for full passage in the coming weeks.
Such legislation, if passed, will create the world’s largest carbon market, says Michael MacGregor, senior vice president, managing director of the Chicago Climate Futures Exchange. He points to expectations that the U.S. carbon market could begin with more than 6 billion metric tons under a U.S. federal cap, compared to the 2.2 billion metric ton market in the European Union and 188 million metric ton market currently under RGGI.
Kenneth Worthington, analyst with J.P. Morgan, wrote in a recent research report that CCFE, CCX and Intercontinental Exchange (ICE) can “benefit well in advance of the 2012 legislation.” Furthermore, he wrote that a so-called early action feature, pending legislation, is expected to recognize trades done on CCX. Worthington added that the latest “discussion draft” of an energy bill has “very favorable early action wording,” making CCX one of the few programs that would make the trades fungible once the U.S. market goes into the cap-and-trade system. “In other words, buy your emission contracts now, because they are applicable to the standards that U.S. regulators decide on,” he wrote.
CCFE, which currently has nearly 395 members, is also looking to add more firms to its roster. It currently is selling Trading Privilege Holder rights (TPHs), which offer the ability to execute trades directly on the CCFE markets. Currently, 33 remain for sale prior to the expected passage of U.S. legislation on cap-and-trade, with up to 100 becoming available thereafter. The exchange has said, however, that it will only sell the final 100 TPHs for no less than $250,000 each. No more than 25 TPHs will be sold (in the secondary market) in a given calendar year. The price in mid-April was $150,000. There are further stipulations, including the fact that after the 33rd TPH is sold, a minimum of two TPHs will be required to become a clearing member.
The thought is that there will be other advantages to getting involved early. If cap-and-trade legislation is passed, virtually every sector of the economy will be impacted. So-called compliance buyers, such as utilities that need to comply with future carbon emissions standards, are taking advantage and buying cheap credits at this point, notes Gil Avidar head of emissions sales - Americas at Newedge.
Exactly which exchange will emerge as the winner in the U.S. carbon markets is still unknown. Some are projecting that the U.S. carbon market will be $1 trillion alone by 2020. CCX, launched in 2003, has a head start and its other sister exchange in London. European Climate Exchange holds more than 90 percent of the listed carbon market in the European Union. But CME Group, along with a consortium of firms, has been revamping the Green Exchange, launched in December 2007 under New York Mercantile Exchange leadership. But to date, it has done very little volume. Green Exchange, which also offers a variety of pollution credits, currently is awaiting its DCM license.
Peter Fusaro, who founded consultancy and research firm Global Change Associates, says a so-called second mover in this situation could be the winner in terms of market share. In this market, “financial certainty” will follow “regulatory certainty,” he says. He adds that the Green Exchange stands to benefit from CME group’s strong customer base, many of which already trade energies on CME.
Critics of CCX say that some of the voluntary credits approved by the exchange do not meet international standards and may need reworking to comply with new U.S. legislation. That issue is still unresolved with the pending legislation.
As the U.S. markets evolve, CCFE, Green Exchange, and potentially Eurex, NYSE Euronext and Nasdaq OMX may vie for a piece of what would be the largest carbon market in the world. Competition is healthy, notes Randy Warsager, director of green products for CME Group. Competition “drives innovation and interesting ideas,” he says.