The completion last month of the first cash-settled forward trade on EU CO2 allowances is a big advance for the European emissions trading market (EU ETS). GreenStream Network (GSN) brokered the trade between counterparties Dresdner Kleinwort Wasserstein and Sampo Bank of Finland.
Forward trades on EU CO2 allowances were settled by the physical delivery of a specified amount of EU allowances from a seller to a buyer. This transaction, for a large volume of allowances at an undisclosed price, is the first time a EU CO2 emissions trade has been settled in cash, giving companies affected by the EU ETS a hedging tool against excessive CO2 movements.
?Cash-settled transactions provide price protection across the EU’s 25 member states, allowing them to trade or protect themselves with cash-settled CO2 swaps,? says Karri Lehtinen, head of commodities at Sampo. ?CO2 hedging will be added to corporations’ risk management practices.?
Without a fully fledged spot market, pricing the trade wasn’t straightforward. ?The challenge was to find a market price for the valuation date,? says Jussi Nykanen, vice-president at GSN, which offers intermediary and advisory services in the environmental markets in Scandinavia and Germany. Exchange trading is expected in the next few months, with at least five exchanges looking to launch products based on the EU ETS. So far, the European Climate Exchange (ECX) and Germany’s European Energy Exchange (EEX) have been the most active in the market. ?The trade was priced against a broker index as we felt that was the best reference to use,? says Ingo Ramming, managing director at DrKW responsible for emissions trading. ?But with plans for a liquid spot market and exchange-traded market in place, we will be able to price future transactions against an exchange.?
Until now many players have avoided the market, as they haven’t wanted the hassle of physical delivery. ?This technology will bring a more diversified set of participants into the European emissions trading market,? says Ramming. ?The presence of financial players such as hedge funds will bring more liquidity.? GSN’s Nykanen concurs: ?In Finland, for example, banks are not allowed to include physical delivery in the trades, so this type of financial deal will make it easier for them to enter the emissions trading market.?
The EU ETS has gathered pace since its inception on January 1. It’s the first international ?cap and trade? system designed to allow CO2 emitting companies to reduce emissions through trading of allowances.
