Will carbon’s bogeymen return?

Increased renewables generation and lower gas prices will add pressure to European carbon prices in the months ahead but in the medium to long term the market is expected to tighten amid very ambitious climate targets. Listen to a discussion on the main factors driving prices and why we are unlikely to return to EUR 100/t. In addition, who are the “carbon bogeymen” and will policymakers blame them in case of a sharp rise in prices?
 
Host: Richard Sverrisson, Editor-in-Chief, Montel

Guests: Florian Rothenberg, Senior Analyst EU Power and Carbon Markets, ICIS; Paula VanLaningham, Director, Carbon Research, LSEG.

Transcript

Richard Sverrisson, Editor-in-Chief, Montel: 0:06

Hello and welcome to the Montel Weekly podcast. Bring you Energy Matters from the annual e-World Trade Fair in Essen, Germany. Today we're discussing carbon markets and the European ETS in particular, carbon prices hit a hundred Euros earlier this year, a couple of on a couple of occasions. And at the moment we're trading around 85 Euros. What's next? What can we expect in the coming months and what are the main drivers for prices? I'm Richard Sverrisson, and joining me today is Paula VanLaningham of LSEG and Florian Rothenberg of ICIS. A warm welcome to you both. Great to have you here.

Paula VanLaningham, Director, Carbon Research, LSEG.: 0:49

Thank you for having me.

Richard Sverrisson, Editor-in-Chief, Montel: 0:51

Now I mentioned prices and we're currently trading. In the ETS in the European emission training scheme at around 85 Euros. What are the main drivers at the moment? Florian?

Florian Rothenberg, Senior Analyst EU Power and Carbon Markets, ICIS: 1:02

Yeah, we have seen quite a case, like almost one and a half years of price discovery, right? The bullish run is over the one way street is over in a way. After the invasion last year, prices collapsed. And then we always have been in that range, 8,200 euro, and I think right now is narrowing it down a bit. To 85 euro something where we would also say that it's fundamentally justified. And I think really it's that end of political uncertainty to one extent. But I would not say that the un uncertainty is over. So we have a lot of uncertainties, especially in the short term, speaking about industry and in the long term. Speaking about also the speed of transition that is possible in Europe. So at the moment also the market is really looking for directional views while having these long term. Uncertainties at the same time.

Richard Sverrisson, Editor-in-Chief, Montel: 1:48

When you say political uncertainty, what do you mean?

Florian Rothenberg, Senior Analyst EU Power and Carbon Markets, ICIS: 1:50

Mostly referring to the fit for 55 process, which finalized this year. We had three years of discussion around how to adjust the system, how to make it suited to reach 55% emission reduction by 2030. And of course that brought a lot of uncertainty to the market because then suddenly last year also you had all that discussion about repower eu. Can we bring more volume potentially from the market stability, reserve policy makers? Were basically discussing everything that was put up on an agenda by someone. And I think that is uncertainty because you had that directive that ETS directive open and everything could change, which could have a big factor in both directions. And that is definitely the political uncertainty.

Richard Sverrisson, Editor-in-Chief, Montel: 2:32

Absolutely. Florian mentioned. The narrowing spread that Paula, so from some 80 to 85 to a hundred what would it take to break outta that range?

Paula VanLaningham, Director, Carbon Research, LSEG.: 2:41

I think to break out of it in either direction, you're talking about a major shift, a major event in one way or another. So in order on the bullish side, if you have another gas market like you did last year, that could break it out of that space. If you have a major economic event, like the negotiations currently ongoing in the US at the moment with no real sign of resolution, that could break it out as well in the opposite direction. It really just, I think, depends on what factors actually happen. We talk a lot about uncertainty and it's not just uncertainty about what EU policy is, it's also uncertainty, I think, on a broader macro level, which is going to continue to play a role in whether or not the E-U-E-T-S can hold within that range. Going forward. I think that we also see it in that narrow range at the moment. And certainly going into the summer months ahead of the first auctions for repower eu, you're not really going to see a huge amount of price drivers from the commission side of that. So any changes are really going to be more macro than anything else.

Richard Sverrisson, Editor-in-Chief, Montel: 3:38

So keep your eyes peeled on the macro picture, the bigger global picture. Is that what you're saying?

Paula VanLaningham, Director, Carbon Research, LSEG.: 3:42

In addition to what Florian talked about? Yeah.

Richard Sverrisson, Editor-in-Chief, Montel: 3:44

Oh, cool. Of course. Do, do you think we'll see a hundred euros again this year?

Paula VanLaningham, Director, Carbon Research, LSEG.: 3:50

That, it's an excellent question. And I think to the broader point, yes. If you have a gas market like you had last year, at the moment, gas prices are really quite low. And so that is a, obviously an enormously bearish indicator for the E-U-E-T-S because we're at that point where you're looking at fuel switching. So if you actually see gas prices surge like you did last year, then you could potentially touch that a hundred euro mark again. But at the moment, a lot of the major factors, at least in the medium term, short to medium term, are more on the bearish side than anything else. Again, barring some major macro event.

Richard Sverrisson, Editor-in-Chief, Montel: 4:20

What's your view here, Florian?

Florian Rothenberg, Senior Analyst EU Power and Carbon Markets, ICIS: 4:21

Yeah, we have always been saying the price not necessarily go to 100, but you can always be wrong in this market. And I think. There's always these technical levels and these psychological levels that you can reach, and the market has been very tight and especially given what Paula said on the gas market side having these high emission from the power sector, that really has been a driver also to the upside last year quite a lot. But at the same time, also we got these macro berries, and especially, I would disagree in the point that you made. What happens if we go back to gas prices of 100 Euro, for example? I would say that could be even a bearish sign for ua.'cause we had so many shutdowns because of high energy costs. Now we see for example, the steel sector slowly returning, but they will stop returning as soon as we go. Gas price, over a hundred euro. Again, chem the chemical sector. Similar story. They still shut down. And there's also like a bit of worries that they will never open up again. Like ammonia production in Europe, is it really competitive against ammonia produced in the US for example? It links a bit to the macro picture. You're also painting, and I would say that market participants by now also, you always have that, and I agree with you of the short term driver, more Coburn, but I would argue that this fates a bit looking forward, and I think market participants already last year have not priced it to the bullish extent. One could have expected, especially on the high, where we had lignite plans opening up again, where we had. A lot of coal capacity. We actually, right now, this summer, might close again. But that's just an opposing view. I think also market participants probably not fully agree on that, so I think it's a school of thought in the end, right?

Paula VanLaningham, Director, Carbon Research, LSEG.: 5:59

It's always, I think, a technical balance about weighing whether or not the actual economic impact on production and manufacturing for higher energy prices is going to outweigh the higher energy prices themselves. It's a pretty fine balance. It's not surprising that there are different views on the market there.

Richard Sverrisson, Editor-in-Chief, Montel: 6:15

No. Is, yeah. We've talked about gas and that's obviously a global commodity Paula, but is that what's gonna be the effect on the market going forward more? Are you seeing more gas burn coming in or, and what would be the effect? Is that gonna have. More of a bearish impact because people are switching from the lignite and coal plants that Florian mentioned.

Paula VanLaningham, Director, Carbon Research, LSEG.: 6:34

You also have to fact in the amount of renewables that are coming into the market right now as well the weather has been quite mild and most recent weather forecasts are showing a fairly good wind potential and solar potential at least through the summer months as well. So you're going to see quite a lot of renewables powering that grid in lieu of gas on top of the lower gas prices. So it, that, of course, has an additional bearish of impact. When you think about. The fact that not only are you switching away from ignite and coal, you're also switching away in some cases from a larger gas burn as well. So again, that's more of a medium sort of term view through the summer space. But it's, and it could go either way in the winter, but it's, I think, broadly speaking, part of the bearish signal as well. Again, because we're going to see so much. Additional renewable power, potentially hitting the grid throughout June, July and August.

Florian Rothenberg, Senior Analyst EU Power and Carbon Markets, ICIS: 7:22

I can just agree on this, like we, we look also at power sector emissions on a very frequent level, on a daily level, and I have been quite worried since la like last year I was saying like, power emissions are going to explode, and then Q4 happened. We got all that industrial disruption, and now power emissions are actually quite low. We could see 2020 levels again this year. And I think you definitely mentioned the driver behind that, that fast renewable built out, and this is not only sending a barrier signal in the medium term, but also in the long term, if we can really manage to get renewables online that fast. Obviously to help a lot with the 2030 targets in the end as well.

Richard Sverrisson, Editor-in-Chief, Montel: 7:58

So 2020 emission levels, that, that's at the moment. I mean in the power sector Exactly. Mainly due to the massive rollout or the. The production from renewables.

Florian Rothenberg, Senior Analyst EU Power and Carbon Markets, ICIS: 8:08

Exactly. Production from Renewables. We still have a higher degree of coal burn and now if we look at summer, we got a bit of fuel switching and because the gas storages will be full by then then we can definitely target a level of emissions that we have seen in 2020, the last time in the power sector. And 2020 with both COVID plus Q switching. 2020 was, yeah. It's a potential. I'm not saying this is going to happen currently. Our forecast is still above that. But

Richard Sverrisson, Editor-in-Chief, Montel: 8:33

but that's the intention of the ETS, isn't it? To bring emission levels down. So incentivizes more renewables coming into the market and that's, that can only be a positive thing in a way. Unless you are you have a net long position maybe. But what's your view in the medium, medium to longer term, Paul?

Paula VanLaningham, Director, Carbon Research, LSEG.: 8:47

I think we see it at these levels for a fair, for a fair while. Definitely a bit range bound. I think the expectation of course going to 2030 is you're going to start to see a much higher rise in overall E-U-E-T-S prices, which is fairly expected above one 50. We've had that forecast for quite a while. There are a number of different factors that could influence that view. Again depending on the speed of renewable rollout there are more industries coming into the ETS shipping, for example. That's going to add another demand factor that. Isn't necessarily as large as some the other ones, but could be, not insignificant, potentially anywhere

Richard Sverrisson, Editor-in-Chief, Montel: 9:19

for the impact, for the inclusion of the maritime sector.

Paula VanLaningham, Director, Carbon Research, LSEG.: 9:21

It's definitely a bullish factor, right?'cause it's a much bigger demand. It's an additional sector of demand and shipping, di shipping demand and shipping emissions are not necessarily large per boat, but as a sector it can be quite significant. So I think that is very much a bullish factor going forward. But whether or not it's a bullish factor to continue that momentum well into sort of the 2020s and 2030s,

Richard Sverrisson, Editor-in-Chief, Montel: 9:42

What's your view medium to longer term perspective, including, maritime?

Florian Rothenberg, Senior Analyst EU Power and Carbon Markets, ICIS: 9:47

Yeah, maritime in general I think I can just agree with Paula. I think that's spot on. It's a bullish factor. Some of them are starting to buy probably right now already. Of course we get more supply in. But overall the balance for the maritime sector is short. And in the medium to long term, however, we have our base scenario is actually quite neutral overall. We see actually renewable targets being reached by 2030 and we see that there's economic possibility to lower carbon emission plus the factor that industry to some extent might yeah, it might clo have to close down production to a low extent. But this also contributes, of course, to reaching the climate target in the end. So we have a neutral view on the market, but we also see that upside risk in other scenarios as well, which we don't necessarily see as the most likely scenarios. But that 150 euro level is also definitely possible, especially if industry is not able to adapt. I don't worry too much about the power sector, but industry is definitely yeah, if they're don't, if they're not adapting, we need higher carbon price.

Paula VanLaningham, Director, Carbon Research, LSEG.: 10:46

According to Abate Industries are going to be the sticky solution, right? And the targets are extremely ambitious for them. So that's a big technological rollout in a relatively short amount of time. Again, if those emissions targets are met, then it could be lower, significantly lower. But if they're not, then we see that higher carbon price,

Richard Sverrisson, Editor-in-Chief, Montel: 11:03

which, so that, which industries are you thinking in particular?

Paula VanLaningham, Director, Carbon Research, LSEG.: 11:06

Steel making, of course, is the one that everyone talks about, cement, the energy industry is a big one. We're here at E World today.

Richard Sverrisson, Editor-in-Chief, Montel: 11:13

We're we yeah, exactly. We're, we are getting there, but we're not quite there yet.

Paula VanLaningham, Director, Carbon Research, LSEG.: 11:16

No, exactly. All of those industries are very hard to abate. And so there, there are, there is always going to be some measure of emissions as part of them. It's about getting in as low as possible and meeting those emissions targets. And they are very ambitious, not unachievable. So again, that will factor into sort of what you actually see in terms of the long-term price. I think our expectation is that. Those may or may not be hit on time. As a result of that, you're likely to see a higher carbon price.

Richard Sverrisson, Editor-in-Chief, Montel: 11:42

Yeah. And what's been the effect of the the 2.5 billion allowances being validated not being annu? Sorry.

Florian Rothenberg, Senior Analyst EU Power and Carbon Markets, ICIS: 11:50

And now, Shall I go first?, From a whole perspective, it doesn't have a big impact on the balances because we don't see them coming back from the market stability reserve. But I think this is also a bit of a question of belief, and I think there are models that forecast that they would come back to the market. And of course then it may, first of all, it was known since 2017 that those volumes would be invalidated. So it was definitely priced in. Now it just gives a bit of certainty that they are really going to be invalidated. They will never come back to the market. And there's a upper limit basically on whatever is in the MSR in the future. And I think this is really good for investment certainty because it. Even if we get a commission, maybe at some point who wants to bring more volume into the market, there's a limit on it. I think if we get like another repower EU situation, then we have a limit on it. And so invalidating was a necessary move. But I wouldn't say it has a price impact.

Richard Sverrisson, Editor-in-Chief, Montel: 12:42

What's your view, here? I

Paula VanLaningham, Director, Carbon Research, LSEG.: 12:43

think we pretty much agree, right? Which is that it, it's been. Long planned and long forecasted. The market has had plenty of time to adapt to it. It's been nice because, in a lot of ways the commission is very consistent about the way that it actually rolls out these policies. And so as a result of that, it does allow markets to actually adapt over a longer term which again means that once they actually happen, you're not actually looking at a huge schism or a price impact because it's already there and everybody knew it was coming.

Richard Sverrisson, Editor-in-Chief, Montel: 13:09

Another aspect that. Market participants look very closely at, and that's the net short positions. And we've seen some of these closed in recent weeks. What, what does that what kind effect does that have? Or what should, what would you read into that? So,

Florian Rothenberg, Senior Analyst EU Power and Carbon Markets, ICIS: 13:22

This is usually one of the drivers for week on week moves. Where we look at speculative position holdings and short covering is always. Giving a lot of upside in the very short term, but you also know probably next week is going down again. So I would say there was a lot of shout short covering in later prize moves. And that shows also that like these bullish moves really to the upside to 90 euro are not really sustainable. And, but at the same time, I would argue like taking a short and this market is also a risky move. And chose that. And if you can have a bearish view, but. There is the MSR there is policy, there is the fit 5 55. Maybe you should not bet on the prices really going down to 70 again. And yeah, I think taking really active short position is something that yeah, has not proven to be really sustainable maybe for a few players. And Paula, what do you think?

Paula VanLaningham, Director, Carbon Research, LSEG.: 14:13

Oh, it's definitely an interesting to watch. I think I agreeing with Lauren when you see those sorts of moves, you're talking about week to week moves rather than, month to month or even year. Definitely not year to year. So it's not something that necessarily impacts your average buyer under the E-E-E-T-S. It's very much a kind of Okay. Those that, speculate a bit more in that space. It's do again, I think it. Taking a sort of extremely short view on this market is risky. Most of the long-term factors are bullish or at the very least neutral. So at that point, you're making a pretty big bet down the other way. Again, that's not to say that it couldn't happen. There are going back to sort of those macro factors that could actually cause that to happen. You you can follow the EETS prices very closely linked to, to like the stocks price as well. And so if there's a big change in. The banking crisis. If that spreads, for example, that might be a big bearish impact that could drive prices down and see those actually return. But at the moment, most of the medium and long-term factors are to the neutral bullish side of this. So there's not a lot fundamental that would make it go lower, significantly lower anyway.

Florian Rothenberg, Senior Analyst EU Power and Carbon Markets, ICIS: 15:20

And maybe to add just one point, like anecdotal evidence is also that industry last year was really just waiting for the price to go down again to just buy. There's anecdotal evidence. I don't trust this. I would never build this into a model, but I spoke to a few players that said, yeah, buying the dip was quite a good strategy last year for industry.

Richard Sverrisson, Editor-in-Chief, Montel: 15:38

This market is also, there's been a lot of talk around speculators and the role of speculators in the market. Do you expect that to have cooled off or to cool off in the sort the coming months and years, or is that gonna come and come back as and hold the market whenever there's a sudden swing up or a or a drift down?

Paula VanLaningham, Director, Carbon Research, LSEG.: 15:55

There are always the bogeyman in any market, right? It was not as much of a big a part of the conversation in 2022, which was actually quite a volatile year, obviously in e, in the EUA price as well as in broader commodity prices more generally. When you heard a lot about the, talk about speculators being influence in the market was the big bull run in 2021. So if you see another version of that, then yes, absolutely. That will be something that comes back into the conversation at the, there was really no evidence found for that, that was a big driver of price. It was ultimately a fairly fundamental move as is evidenced by the fact that it. It continued to hold largely in a volatile way throughout 2022, but it's always going to be the bet noir of any sort of market participant, particularly in an emissions trading system. And it will, whether or not it's actually a factor is different than whether or not people will talk about it being a factor.

Florian Rothenberg, Senior Analyst EU Power and Carbon Markets, ICIS: 16:42

I think It's very political, right? I think it was not a question that policymaker really thought speculators are doing any harm to the market. I think they just thought prices are too high and their voters were like, just. Going against them. And right now the a TS directive is not on the high on the political agenda anymore. So I don't expect coming up though, I think we have a tracker or some, like internally we always discuss Poland actually every year claims that prices are too high. So I think that is, that's for it's gonna come back at some points. Eventually. May, maybe not. Member states are really getting used to the revenues right now. It's, I think it just depends on the voters, right? They have to sell it to them and. That was a huge discussion in ETS that they have this price limit, which is actually not a price limit. The market is not traded. We don't need to discuss it, but it was the same topic like. You just need to give something to your voters. And if you can blame speculators, then this is a really nice story because he's a scare guy.

Paula VanLaningham, Director, Carbon Research, LSEG.: 17:35

So I would add to that as well is that it's something that when you are looking at a massive run higher, which is what happened in 2021, you broke out of what was a narrow trading ban, just, like a huge rise in prices. That is something again, that it becomes a much bigger flashpoint for the political conversation than something like a new narrow trading ban like we're seeing now. It's a newer normal at higher prices, but you get used to that with time. It's the sustained upward trajectory that causes everybody to immediately be able to point to that as the major cause.

Florian Rothenberg, Senior Analyst EU Power and Carbon Markets, ICIS: 18:08

And I would bet it was not the last time that we discussed speculators. So two years from now,

Paula VanLaningham, Director, Carbon Research, LSEG.: 18:13

absolutely not.

Florian Rothenberg, Senior Analyst EU Power and Carbon Markets, ICIS: 18:14

I'm, it will come up again. Absolutely.

Richard Sverrisson, Editor-in-Chief, Montel: 18:18

Yeah, but I could talk about this, so we could continue talking Carbon matters for much, lot, much longer. But I, we have to draw it to a close now, I'm afraid. You can read all the latest carbon news on Montel News covering the, these aspects of the markets that we've discussed today and much, much more. But for now, Florian and Paula, thank you very much for joining the Montel Weekly podcast.