London — A surge in European carbon allowance prices to fresh all-time highs is justified by market fundamentals, Swedish bank SEB said in a research note Feb. 4.
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While short-term technical factors have contributed to the sudden jump higher, the move highlights a long-term tightening of supply as Europe moves into a higher gear to drive a low-carbon economy, the bank said.
"The EU carbon price reached a new all-time high of Eur38.25/mt this morning," said SEB chief commodities analyst Bjarne Schieldrop.
"A speculative short squeeze has been blamed for the recent rise. That might be so, but even if it was, it is still showing how strong the carbon market fundamentals are right now," he said in the note.
EU Allowance futures contracts for December 2021 delivery on the ICE Futures Europe exchange powered up to a fresh intra-day high of Eur38.25/mt ($45.04/mt) Feb. 4, a gain of Eur5.40/mt or 16.4% in the space of three days.
Changes in the carbon price over the last two months, as well as the last half year, are fundamentally based and not speculative, the analyst said.
"Speculators now increasingly seem to be attracted to the market and that could potentially drive the carbon price much higher and much sooner than what has previously been expected and projected by most," said Schieldrop.
"It has been argued that the latest jump in the carbon price is due to an unfortunate short squeeze in the carbon market where some speculators have been caught short in a bullish market," he said.
"That might very well be the case, but even if it was, it still vividly shows the underlying strengths of the current European carbon market. The bull-case in carbon has been brewing for quite some time with a massive strengthening of the political backdrop just over the past year," he said.
EU regulators are expected to propose a revision of the EU Emissions Trading System in June to take account of the bloc's proposed tougher emissions reduction target of 55% below 1990 levels by 2030, compared with the existing 40%.
The stronger target will mean tighter annual carbon caps under the EU ETS out to 2030, restricting supply of allowances to European power generators, factory operators and airlines.
Lawmakers are also set to propose expanding the market to cover CO2 emissions from shipping, as well as introduce carbon border measures to level up the playing field for Europe's emissions-intensive industries.
"The technological solutions are suddenly there, giving politicians the option to act on concerns for the climate -- an option they could not see available just a few years ago," said Schieldrop.
S&P Global Platts Analytics sees carbon prices averaging Eur29.10/mt in 2021, based on forecasts in its Jan. 15 EU Emissions Trading System market update.
However, prices are expected to rise over the long-term to as high as Eur48/mt by 2030 due to tighter post-2020 EUA supply as well as the ongoing operation of the Market Stability Reserve, Platts Analytics said.
The MSR removes surplus allowances at a rate of 24% per year until 2023 and is subject to a review in 2021.
"Primary auctions have restarted – and so the lack of incoming EUA supply is no longer an issue," said Jeff Berman, Platts Analytics director of emissions and clean energy.
"From a pure compliance supply-demand perspective, 2021 looks reasonably balanced. As we discussed in our January 15 EU ETS Monthly Outlook, auction supply from February-July is actually higher than our expectations for power sector EUA demand," he said Feb. 4.
"With that in mind, net length in EUAs from investment funds remains strong. The extent to which they continue buying in the coming days or weeks can support prices despite the real-time or annual compliance picture," said Berman.