Muted hedging, later MSR start could cap short-term EUA gains -analysts

Published 19:13 on March 31, 2015  /  Last updated at 15:01 on May 11, 2016  /  EMEA, EU ETS

European carbon prices are expected to continue rising through the rest of 2015 but face downward pressure from reduced hedging by utilities and disappointment regarding the start of the MSR, analysts said on Tuesday.

European carbon prices are expected to continue rising through the rest of 2015 but face downward pressure from reduced hedging by utilities and disappointment regarding the start of the MSR, analysts said on Tuesday.

Front-year EUAs, currently trading around €7, will rise to average €7.5 in Q2 before climbing further to a mean average of €8.25 in the second half, Energy Aspects said in a research note.

However, prices face bearish pressure from signs that buying among power generators is slowing – namely decreased open interest numbers on the key EUA futures and concerns over complying with MiFID II financial regulations.

Energy Aspects notes that overall open interest is down by 85 million units or 7% from a year ago, despite that level being 22 million tonnes higher year-on-year at the end of February.

It attributed the divergence to a markedly slower rise in open interest this month, which it said was likely a result of weaker spark and dark spreads across Europe, causing utilities to “move to the lower bounds of their hedging profiles”.

It added that a second factor may be that looming regulatory restrictions on utilities’ trading activities may prompt them to minimise the amount of forward hedging they engage in for 2016, in order to stay within potential MiFID II thresholds.

“If this is the case, and the market moves to a structurally lower level of hedging, then any volume of market inventory will have less demand for the creation of hedges, and prices will stay lower for longer,” the analysts said.

They added that emissions covered by the EU ETS are estimated to have dropped by 5-6% in 2014, but that colder European weather in Q1 has been more supportive of EUA prices compared to last year.

Energy Aspects forecast front-year EUAs to average €10.50 in 2016, and €14 in both 2017 and 2018.

2019 or 2021?

However, the analysts also noted the uncertainty and potential risks to prices stemming from the start of the MSR – a date over which EU member states and the European Parliament are currently wrangling.

The EU Council last week agreed a common position to favour a 2021 start, as proposed by the European Commission, but this is at odds with the European Parliament, whose environment committee backs a late-2018 launch.

“With agreement on most of the rest of the proposal, it is hard to see what there will be to negotiate on … It seems difficult for any member states in favour of an early start date to exert influence on the remaining bill negotiations, (and) as such, it now seems to be a tug of war between the two start dates favoured by the two different houses,” the analysts said.

“We think the pendulum of political has swung in favour of the Council’s agreed 2021 start date, and would generally hold that in a straight out battle of political wills between the two parties, the council usually triumphs.”

The analysts predicted EUAs would average €14 and €15 respectively in 2019 and 2020 under a 2021 MSR start, compared to €18 and €21 with a 2018 launch.

However, they added that under either scenario EUA prices are expected to stay largely the same in the period out to 2018.


Energy Aspects also highlighted how the fate of phase 3’s unallocated allowances could affect EUA prices.

The Parliament wants those permits to be injected into the MSR when it launches, while member states have called on the Commission to write a fresh proposal via its review of the ETS Directive this summer.

The analysts said the pot of unused EUAs – allowances not handed out from the NER, not auctioned by governments or not issued due to installations being partially- or fully-closed – could range from 300-900 million units by the end of 2020, but pegged their estimate at around 458 million.

“The volume of unallocated allowances will be important which ever start date is chosen, as auction volumes will need to ramp up considerably to meet the (EU ETS) cap levels, and given the 2015 levels of auctioning, we are not sure this is going to happen,” Energy Aspects said.

“One could argue that if the unallocated reserves are being put into the MSR the regulator has an incentive to keep auction volumes lower during the current phase. While rarely discussed, this is an important area of uncertainty in the market.”

By Mike Szabo –