Savvy oil traders could jolt the WCI from its sleepy tracking of auction prices next year as the massive transport sector tilts the market, despite a widening overall surplus.
California’s market more than doubled in size this year as the transport fuels and natural gas distribution sectors were brought in.
Their arrival has already discernibly changed the market’s mid-term dynamics and the trading strategies of some participants, said ICIS Tschach Solutions analyst Jan Ahrens, although prices haven’t strayed from their slight premium over the quarterly auction reserve price, pegged at $12.10 this year.
California carbon prices edged higher this week, gaining 3 cents from last Friday and breaching the $12.90 level for the first time since February. Trading volume was modest with some 2.3 million permits changing hands, days ahead of the quarterly auction on Nov. 17.
While the natural gas sector has kept a relatively low profile amid getting a good chunk of their allowances for free, Ahrens said some fuel suppliers have already tapped the market to hedge their needs well in advance of the Nov. 2016 deadline for 2015 compliance
“One refiner, Tesoro, had hedged all its Q1 2015 obligations by the end of 2014, according to our analysis. These big oil companies know how to trade, how to hedge, and they use these capabilities.”
The new hedging activity by fuel suppliers will likely make the market temporarily short in early 2017, which could be enough to move prices up towards $13.30 in H2 2016, Ahrens said.
“There is a mismatch between supply entering the market and demand entering the market, because companies are buying earlier than the allowances are auctioned, so there’s a risk of a temporary shortage in the market, which we see happening in 2017.”
PERMIT SURPLUS TO SWELL
The new sectors aren’t expected to change the overall market balance because California’s cap has increased by more than the total output of 2015’s new entrants, analysts calculate.
Verified emissions of 146 million tonnes from the original market participants in 2014 resulted in a surplus of about 14 million tonnes, according to official data, with the cumulative oversupply for 2013-14 at around 31 million.
To accommodate transport, California’s emission cap was hiked from 160 million tonnes in 2014 to 394 million tonnes in 2015.
“Transport fuel emissions have been quite steady. They went from 162 million in 2011 to 156 million in 2012. In both 2013 and 2014 they were 155 million tonnes,” said BNEF’s Colleen Regan.
Chandan Kumar of CaliforniaCarbon.info said the market will remain oversupplied until 2021 and have a total cumulative surplus until 2026.
TRANSPORT ABATEMENT PROSPECTS
The fuels sector is unlikely to have much incentive to reduce emissions while carbon and gasoline prices remain at their current levels, Regan said.
“One of the easiest ways to reduce emissions under cap-and-trade has been to blend ethanol into gasoline, but for some time now fuels suppliers have been blending the maximum 10% of ethanol allowed. Any further emissions reductions they can make are going to come at a cost.”
Regan identified the state’s recently re-approved low-carbon fuel standard, which may encourage some bio-diesel blending, as well as tightened Corporate Average Fuel Economy standards, as offering opportunities for more emission cuts from the sector.
However, the carbon price itself may not climb high enough to encourage consumers to slash their fuel consumption, said Tschach’s Ahrens.
“Carbon prices would need to rise to levels north of $100 to have a meaningful impact on fuel prices, but that would take gasoline prices to a level politicians probably wouldn’t want to see.”
Meanwhile, Dec-2015 RGGI allowances jumped as much as 15 cents Thursday, reaching a high of $6.85/short ton before closing at $6.81 on ICE.
Volume across all vintages and contracts was just over 10 million tonnes for the five days to Thursday.
Traders and brokers were hard-pressed to find a reason for the move.
“The market’s been stagnant for a couple of weeks with not much trading,” one New York-based broker said.
“Someone needed to do something and now we’re up a dime.”
By Alessandro Vitelli – firstname.lastname@example.org