eu ets: calm, but for how long? energy risk europe 2006

Providing critical insights into energy and environmental markets www.pointcarbon.com

EU ETS: Calm, but for how long?

Energy Risk Europe 2006

Atle Christiansen, Point CarbonLondon, 3 October 2006


Key questions

• Phase I (2005-2007)1. Can price developments be accounted for?

2. Phase I is long, but why is it trading short?

• Phase II (2008-2012)3. What are the key price drivers?

4. Will EU NAPs provide sufficient scarcity?


Can price developments be accounted for?

0

5

10

15

20

25

30

35Ja

n-05

Mar

-05

May

-05

Jul-0

5

Sep

-05

Nov

-05

Jan-

06

Mar

-06

May

-06

Jul-0

6

EU

A 2

006

[€/t]

Source: Point Carbon

Range bound:Fluctuating fuel prices

Length to market

Bear run:Softening fuel prices

Bull market: Weather/fuel prices

250-300 Mt cut in NAPs

Bull run:Weather/fuel prices

Price collapse: Verified emissions data

Range bound:Compliance buyingLength to market

Bull run:Length not to market

Oversold?

What now?


Fundamentally long, but trading as if it is short?

• Phase I is fundamentally long (Point Carbon’s view)– 100 Mt surplus in 2005

– Ample supply of NERs (and possibly CERs)

Prices should approach transaction cost (”single digits”)

• So why is the market trading as if it is short?– Industry length does not come to market

– Utilities are net short on daily basis

– NERs are not currently available


Supply side: Where is the length?


-100 -80 -60 -40 -20 0 20 40 60 80

Total

Metals

Other

Cement, lime and glass

Oil and gas

Pulp and paper

Power & heat

Emissions-to-Cap (Mt)

Where is the length?

NB! Poland not included (-32 Mt)


Where is the length?

31 %29 % 28 %

25 %

22 %

17 % 17 %

14 %

0

10

20

30

40

50<

5k

5-10

k

10-5

0k

50-1

00k

100-

500k

500k

-1M

1-2M

>2M

Installation level cap

Agg

rega

te le

ngth

(Mt)

0 %

5 %

10 %

15 %

20 %

25 %

30 %

35 %

Ave

rage

leng

th a

s %

of ca

p

Aggregate length (Mt) Average length as % of cap


Why has industry length not come to market?

• Compliance is key– Do not optimise carbon portfolio

• ”Hedge” risk of being short– Penalty regime (€40/t)

– Production variability

• Policy uncertainty– Concerns over impact on Phase II allocation

• Lack of market access?– 14 Mt surplus for installations with cap <50k


2005: Long in theory, but balanced in practice?

102

46

14

35

70

20

40

60

80

100

120

Net lengthindustry

Compliancebuffer

Marketexclusion

Power & heatshort

Net Carbonbalance

MtC

O2


Demand side: Short, but for how long?


How much have utilities already covered?

• 2005: Aggregate shortage 83 Mt– 65 Mt in UK, Spain and Italy

• 2006: Estimated short >100 Mt– Dry conditions in Scandinavia and Iberia– Increased coal burn UK and German power production

• Compliance/hedging strategies– Some borrowed for compliance in 2005– Some hedge prompt AND forward exposure

• Compliance purchasing for Phase I has probably peaked May see weakening of demand side Q2 2007


Trading short, but for how long?

0

5

10

15

20

25Ja

n-0

5

Ma

r-0

5

Ma

y-0

5

Jul-

05

Se

p-0

5

No

v-05

Jan

-06

Ma

r-0

6

Ma

y-0

6

Jul-

06

Se

p-0

6

No

v-06

Jan

-07

Ma

r-0

7

Ma

y-0

7

Jul-

07

Se

p-0

7

No

v-07

Source: Point Carbon

Mt

CO

2

P&H purchasing Supply

Reference scenario:Supply outstrips demand Q2 2007


Outlook for Phase II

Market structure and key price drivers


Market structure

CDM/JI

Gov. AAU sales

EU ETS

JPN/CAN/NZ

Gov. purchase programmes Governments Private sector

= Supply

= Demand

Forwarding compliance


Strong demand if unchecked

0 500 1 000 1 500 2 000 2 500

Other

Canada

J apan

EU 15

Mt CO2eSource: Point Carbon

• Business-as-usual scenario• Aggregated 5 year shortage 2008-2012


But supply may be plentiful

Does NOT mean that prices will go to zero!

-5 -4 -3 -2 -1 0 1 2

Russia

Eastern Europe

Ukraine

Other

Canada

J apan

EU15

Gt CO2eSource: Point Carbon

• Potential AAU supply is 7-8 Gt • Potential CER/ERU supply is 1-3 Gt


Time for a NAP?


NAP timeline

Early Oct 2006:

First EC decision on NAPs expected (?)

Early July 2006:

German and Polish NAPs submitted

6 Sept 2006:

11 MS submitted NAPs

Spring 2007:

NAP process completed?

30 June 2006:

Only Estonia submitted NAP

by deadline

31 Dec 2006:

Formal EC deadline


How will the Commission assess the NAPs?

• Key criterion is achievement of Kyoto target– ETS + Other policies + Procurement = ”on track” to Kyoto?

– ”Excessive use” of 2005 verified emissions data

• Countries on track to Kyoto (13 MS):– Cap not above verified 2005 emissions

• Countries not on track to Kyoto (12 MS):

– Cap below verified 2005 emissions

• Bulgaria and Romania?– No verified emission figures


NAP status: The good, the maybes and the ugly

Within an acceptable range

Likely to be rejected by EC

Likely to be accepted by EC

1

-4

-19 -4

-32

-7

-1

-6

-5

10

-12

1.5

-0.1

-3 -21

27

7

-0.5

-3

-0.4

Czech Republic and Denmark have not submitted drafts. Links to Norway and Iceland through EEA agreement?

-14

-11

?

?


Where are the battlegrounds?

• Heavyweights: Poland and France– 51 Mt surplus in 2005– Lax drafts (Poland +40 Mt from Phase I)– Banking?

• Middleweights: Czech Republic and Denmark– 25 Mt surplus in 2005– Still without drafts

• Welterweights: Baltics, Netherlands and Slovakia– 23 Mt surplus in 2005– All have proposed to increase cap


Huge potential supply of CERs/ERUs

0

100

200

300

400

Spain

Germ

any

Poland

Italy UK

Fran

ce

Ireland

Nethe

rland

s

Greec

e

Belgi

um

Austri

a

Czech

Rep

Swed

en

Portu

gal

Finl

and

Denm

ark

Norway

Slov

akia

Hunga

ry

Esto

nia

Lith

uani

a

Slov

enia

Luxe

mbo

urg

Latv

ia

Mill

ion C

ER

/ER

U

Power & Heat limit Total limitSource: Point Carbon

Total CER/ERU limits Phase II (5 years)

All sectors: 1.5 Gt*Power & heat: 0.8 Mt*

*Based on Point Carbon’s estimated caps/limits


Phase II: Bullish or bearish?

• Bullish: Strong demand if unchecked– Projected shortage of 5 Gt (EU15+JPN+CAN)

– Policies and measures might not deliver

– Demand from US/AUS?

• Bearish: Supply is plentiful– Potential 7-11 Gt from AAUs/CERs/ERUs

• EU ETS NAPs are crucial– Need shortage of 200-300 Mt/year

– Mixed signals so far

• Let’s get ready to rumbleTM ...


Concluding remarks

• Can price developments be accounted for?– YES, driven by fundamentals and policy

• If Phase I is long, why is it (at times) trading short?– Length does not come to market

– Utilities net short on a daily basis

• Phase II: What are the key price drivers?– CERs (AAUs) and NAPs

• Will NAPs provide sufficient scarcity?– Perhaps....


Thank you for the attention

For more information:

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eu ets: calm, but for how long? energy risk europe 2006

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