Disruption to carbon markets persists as investors weigh reputational risk

Carbon market investors are heavily scrutinizing carbon portfolios and exercising a high level of caution on new projects due to higher reputational risk, which has either slowed or stalled new funding and disrupted the investment cycle, according to industry experts.

Project investments had already been impacted by bans on exports of carbon credits by some countries last year, but the situation has worsened after several companies were targeted by lawsuits for using low-quality carbon credits to make carbon neutrality claims.

This has translated to extended due diligence for new carbon developments and shrinking demand for old credits, and also impeded the growth of the carbon market as a commodity, experts said at a recent Singapore Carbon Market & Investor Forum held by Australia's Carbon Market Institute.

"We do talk to a lot of large buyers, and they have very different questions to what they had two years ago," said Cheryl Bowler, Head of Carbon Origination & Sales, Asia-Pacific with London-based project developer and trader Vertree.

Bowler said that in the past, buyers just took whatever was available and cost-effective, or simply specified their preferred origins or types of credits, but now they come up with much more detailed requirements. "They are looking at every single aspect of these projects."

To address the quality concerns, Verra plans to come up with a series of innovative nature-based methodologies over 2023-2025, said Joshua Thaisen, Senior Program Officer of Forest Carbon Innovation with Verra, the standards body for the voluntary carbon market, or VCM.

This includes new ARR [afforestation, reforestation and revegetation], consolidated REDD [reducing emissions from deforestation and forest degradation], savanna fire management, improved agricultural land management, improved forest management and blue carbon, Thaisen said.

He expects carbon credits issued under these new methodologies to be aligned with the Core Carbon Principles, or CCP, and the new ARR methodology is expected to be released in the next couple of weeks.

Digital monitoring, reporting and verification, or MRV, technologies will enhance the accuracy of "baselines," namely the estimations for emissions removed or avoided by a project, he said.

Bowler said the new methodologies will tighten supply. "The baselines are going to shrink. And I think they're going to shrink by a lot more than people are expecting."

Old credits

Carbon credits issued under older methodologies now face shrinking demand and discounted prices, and this trend is expected to continue, traders said on the sidelines of the event. "The quality is already dictating the price," Vertree's Bowler said.

"These older credits, the low-hanging fruits, still have buyers out there. There are still a few corporates who don't really care [about quality] as long as they get the numbers they need," she added.

Platts, part of S&P Global Commodity Insights, assessed nature-based avoidance credit price at $5.7/mtCO2e on July 25. The price peaked at around $16/mtCO2 in early 2022.

Ripple effect

The challenges in the global VCM market have had a ripple effect on regional markets such as the Australian Carbon Credit Unit market where project developers also face increasing scrutiny and are demanding better emissions monitoring technologies.

"At the moment, different people looking at different data are coming to different conclusions," said Skye Glenday, CEO of Climate Friendly, a nature-based project developer in Australia.

She said high-resolution satellite data can better reflect on-field conditions but these are defense technologies designed to find snipers in the grass.

"So, you can certainly find a tree on the ground," Vertree's Bowler said, but the questions that arise are around the affordability and broader deployment to realize economies of scale.

In the recent two years, investments in MRV technologies for carbon projects have significantly increased both in regional and global markets, to address concerns over integrity, but they add to costs of projects that are already capital-intensive for small landholders like farmers, project developers said.

They said extra costs will be incurred for data management services because most individual landholders do not have the capability to manage the massive datasets produced by advanced MRV technologies.

Restoring confidence

Carbon traders said that the due diligence process today has to be shortened, especially when it comes to transactions of millions of mt of carbon credits and restoring buyers' confidence is needed to restore efficiency and liquidity in the marketplace.

"Annual financial flows into nature-based solutions need to more than double by 2025," Verra's Thaisen said, adding that VCM needs to be more resilient to unlock such large-scale investments.

In regional markets like Australia, the demand for high-quality carbon offsets is also expected to grow, especially from emission-intensive sectors covered by the national compliance emission trading schemes, such as the Safeguard Mechanism.

"In order for us to continue to provide the fertilizer, the transport services, the mining commodities... we need to continue to use fossil fuels and need industries to work as normal. And that's going to demand an ever-increasing number of offsets," said Thomas Hodgson, Director of Ndevr Environmental, a Melbourne-based advisory firm.