This Year’s Best-Performing Commodity Is About to Hit a Snag

By Mathew Carr, Brian Parkin and William Wilkes (Bloomberg)

After tripling in value over the past year, European carbon permits might be near a peak and will probably fall by December, according to a Bloomberg survey. Allowances that give holders the right to spew greenhouse gases into the air have jumped more than any other major commodity this year as traders anticipate less supply in 2019.

While futures could still advance 4.2 percent by the end of this month, they will probably slide 5.2 percent by December, according to the median in a poll of nine traders and analysts. “I can’t see it adding more,” said Jan Kresnik, a portfolio
manager at Belektron, a brokerage in Ljubljana, Slovenia. “The emitters and speculators have probably already bought in anticipation of the lower supplies next year,” he said. Selling by new traders in the market, high levels of wind and solar power, as well as negative margins from generating power by burning fossil fuels are all factors that may drive carbon permits lower in the second half, said Louis Redshaw, founder of Redshaw Advisors Ltd., a carbon trader in London.
“There’s a lot of pressure at the end of the year,” he said.

Everyone from cement makers to hedge funds have piled into the $35 billion market as the latest intervention by regulators
to boost prices is finally having an impact. Lawmakers have decided to reduce the supply of permits from next year and move some into a reserve to help prices move up toward levels where utilities start to burn less coal, the most polluting power-plant fuel. When the market began in 2005, permits were handed out for free. But since 2013, utilities have been forced to buy them as the region’s pollution rules got stricter. Nations are getting paid a record 14.5 billion euros ($17 billion) for this year’s allowances, based on current prices and a volume forecast from Bloomberg New Energy Finance.

Prices will rise to 16 euros a metric ton by the end of the month, before falling to 14.55 euros by year’s end, according to the median estimates in the survey. They traded at 15.35 on Thursday in London. The market reforms mean there’s likely a shortage during the next three to four years, said Markus Krebber, chief financial officer of RWE AG, the region’s biggest emitter.

“The big question is, how will market participants behave?” Krebber said in an interview. “There’s still a big surplus, but if market participants aren’t willing to sell this into the market, we have a physical squeeze and prices can spike significantly.” The options market, which some traders say has pushed carbon higher in the past year, may now help push prices down, according to Redshaw. As prices surged, sellers of call options at high strike prices have probably bought futures as a hedge, and thereby increasing the demand, Redshaw said. As speculators holding the options take delivery of allowances, some of them will probably sell because they don’t want them as a long-term investment, he said.

The fact that utilities selling coal and gas power are hardly making any money could also drive carbon prices lower as some utilities may choose to burn less fossil fuel to generate electricity, said Jahn Olsen, an analyst in London at BNEF. Should carbon fall, it might allow profits to return for coal and gas plants.

This is the best-ever start to a year for carbon permits, although they are far off their record of over 30 euros set more
than a decade ago. “I don’t think it’s a secret that the extent of this year’s rise has taken pretty much everyone by surprise,” Olsen said. “Speculator activity will largely determine how the rest of the year will play out.”