A new class of FX customers is set to emerge as a result of Australian government plans to link the country’s carbon credit trading scheme to the EU market for environmental compliance contracts. FX-product sales opportunities are set to come online in 2015 when the Australian government allows the price of carbon credits traded domestically in Australia – as part of the country’s stand-alone emissions trading scheme – to link to the price of carbon credits traded in the EU’s Emissions Trading System (ETS).
Initial plans for the country’s ETS were to set a price floor for domestically traded credits in the scheme at A$15 per metric ton.
However, Australian climate change minister Greg Combet announced on August 27 that plans for the A$15/mt floor “won’t be implemented”.
As such, the recent appreciation of the AUD against the EUR – bringing it closer to parity with the single currency –will create AUDEUR trade opportunities for EU Allowances (EUAs), the most liquid carbon contracts traded in the EU system, says one carbon markets analyst.
EUAs for December 2012 delivery – the market’s benchmark contract – were seen trading at €8/mt on Wednesday. The Australian government has said it will allow companies covered by the country’s domestic emissions trading scheme to make up 50% of their compliance demands using EUA credits.
“Price discovery for EUAs will remain with Europe because that is the biggest market,” says the analyst. “What Australia has done is off-shored the sovereignty of the country’s climate policy to Europe.
“Once the Australian carbon-credit market becomes an emissions cap-and-trade scheme, such as the EU ETS in 2015, then domestic prices for Australian credits will tend to converge to the European price for EUAs.”
This means that, in terms of the FX transaction tied to any carbon trade between the EU carbon cap-and-trade system and the Australian ETS, the EUA credits would be cheaper than the Australian domestic credits because of the strength of the AUD over the EUR.
The FX arbitrage opportunity will likely increase demand for the purchase of EUA credits for use with carbon emissions compliance targets in Australia, says the analyst.
“In terms of people looking at transacting between the two carbon-credit schemes, people will likely be looking actively at the currency discrepancies between the two systems and work to arbitrage away the differences when they can,” says the analyst. “This arbitrage will be very significant.”
The analyst adds there is a healthy amount of arbitrage within the EU ETS using EUAs, emissions credits generated by the UN trading scheme and credits created by other, smaller emissions contract-generating systems that allow for “a healthy level of fungibility” within the EU market.
“What electricity utilities often do is sell EUAs and buy back cheaper UN emissions credits in an arbitrage game that reduces their cost of carbon,” says the analyst. “You’ll see a similar play occur between the European and Australian markets – the less liquidity there is in the EU, the greater the arbitrage will be.”