Positioning a portfolio to consider the impacts of market volatility and climate change is critical. This April, the S&P 500 total return is down 6.6% while the average max temperature in India is up more than 1°C compared to the average max temperature in April between the years 1981 and 20101.
The global carbon market has largely recovered from its March lows. EUA posted a 10.4% gain in the month of April. Notably, on Apr 21, 2022, EUA prices reached their highest level in nearly eight weeks - the Dec-22 contract rallied strongly to a peak of €89, the highest since Russia’s invasion of Ukraine in late February – within days the market tumbled to as low as of €58 on March 6. The best performing carbon market is the CCA, which posted a 5% gain between February and April.
In volatile periods like this, we are once again reminded to go back to the fundamentals – and this is what the European Central Bank (ECB) just did. On Apr 26, 2022, the ECB published its analysis of the EU emissions allowances trading. In the analysis, ECB addressed the key drivers behind the strong increase in EUA prices over the last two years, and the potential role played by speculation.
ECB finds that speculation in EUA remains “limited and well below the levels seen during earlier phases of the ETS”
According to ECB’s analysis, the strong price increase in EUA since 2021 is mainly driven by the following three factors:
1. Weather Conditions: Energy demand rose sharply during the particularly cold weather in Europe at the beginning of 2021. In the short term, higher demand for energy leads to increased production and higher emissions, and thus translates directly into an increase in demand for EUA.
2. Energy Prices: The recent high gas prices encouraged companies to switch to high carbon emitting fuels such as coal and, as a result, increase demand for carbon credits.
3. Climate Policies: More aggressive EU-wide climate policies including “Fit for 55” and phase 4 of the EU ETS starting from 2021 further limit the amount of EUA supply available in the market.
Not surprisingly, the ECB also finds speculation in EU emissions allowance prices remains “limited and well below the levels seen during earlier phases of the ETS”, these findings are in line with the latest ESMA report on the EU carbon market.
The below chart is a speculation index calculated by ECB. It is a measure of the weekly trading volume over the open interest for futures contracts expiring in December, 20212. As suggested from the chart, the level of speculation (the blue line) remains fairly stable and is largely below the levels seen at the early stage of the ETS market - Phase-1 from 2005 to 2007, and Phase-2 from 2008 to 2012.
It is reported that US tech giant Netflix bought 1.5 million tons of carbon offset credits in 20213. If you have been doing research on carbon investing, you probably have heard of the term “carbon offset credit” or “carbon offset” several times – What is carbon offset? What makes it different from the (compliant) carbon credits market that Ninepoint Carbon Credit ETF invests in?
Unlike compliant carbon credits, which are generally “created and regulated” by the government, carbon offsets are usually private financing projects that invest in forest preservation, renewable energy or other similar projects that aim to reduce the amount of carbon in the atmosphere. Carbon offsets can be verified under both voluntary and regulated schemes, with varying levels of verification requirements depending on the program – for example, in the California scheme, carbon offsets are allowed to account for 4% of a company’s total compliance obligation, and at least 50% of the offsets used for compliance must come projects that directly benefit California4.
We view the carbon offset market as the wild west with opportunities – and risks. The project geography, focus, scale and measurability all contribute to the quality of the carbon offsets, and, in turn, determine the level of risks investors are taking by investing in these projects. Ninepoint Carbon Credit ETF invests in publicly traded carbon credit futures globally. We believe that for a new asset class like carbon, exposure to the public secondary market minimizes the non-systematic risks in picking projects and provides better diversification benefits through our global exposures.
Ultimately, whether it is carbon credits or carbon offsets, a robust carbon price will incentivise the developments of more innovative- low carbon solutions. Taking a long-term view on the important transition to a clean energy economy – as measured in decades, not years – carbon credits give Canadian investors access to a global asset class expected to see exponential growth.
For more fundamentals about the carbon credit market, please visit: https://www.ninepoint.com/funds/ninepoint-carbon-credit-etf/#resources
Ninepoint Partners Co-CEO and managing partner, John Wilson, recently commented on the latest in the carbon credit market on ETF.com. – “John remains bullish about the long-term prospects for the market because of both the built-in reductions in new credit issuances meant to phase out emissions entirely, and because Western governments now have a clear security reason to reduce their reliance on Russia.”
Read more from ETF.com here: https://www.etf.com/sections/features-and-news/carbon-credits-claw-back-green
John Wilson and Eric Nuttall joined NEO for a discussion on the path to carbon neutral, the case for energy and how investing in both the carbon credit and oil/gas sectors are compelling investments that can make for a well-balanced portfolio with great outlooks.
See the replay here: https://www.youtube.com/watch?v=FEB1Oulsd0A
For an emerging asset class like carbon credit, volatility management is at the heart of our fund strategy. At the moment, the Ninepoint Carbon Credit ETF invests equally in the four major ETS markets globally with quarterly rebalancing. This strategy has demonstrated remarkable resilience in the unprecedented recent carbon market volatility.
Reasons for investors to consider Ninepoint Carbon Credit ETF
2ECB Economic Bulletin, Issue 3/2022, The role of speculation during the recent increase in EU emissions allowance prices
5Refinitiv, “Carbon Market Year in Review 2021”. Global carbon markets value surged to record $851 bln last year-Refinitiv (Reuters - January, 2022)
1All returns and fund details are a) based on Series F $USD units; b) net of fees; c) annualized if period is greater than one year; d) as at April 30, 2022.
2Sector allocation as at April 30, 2022. Sector allocation based on % of net asset value. Numbers may not add up due to rounding. Cash and cash equivalents include non-portfolio assets and/or liabilities.
The Ninepoint Carbon Credit ETF is generally exposed to the following risks See the prospectus of the Fund for a description of these risks Absence of an active market for ETF Series risk, cap and trade risk, collateral risk, commodity risk, concentration risk, cybersecurity risk, derivatives risk, foreign currency risk, foreign investment risk, Halted trading of ETF Series risk, inflation risk, interest rate risk, liquidity risk, market risk, regulatory risk, securities lending, repurchase and reverse repurchase transactions risk, series risk, substantial securityholder risk, tax risk, trading price of etf series risk.
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