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EU energy factories to face first carbon permit shortfall since 2008

02.14.2014  | 

Companies in Europe, which need allowances to match their emissions output, will be short of as many as 100 million permits a year through 2016, according to a new Goldman Sachs report.

Keywords: [carbon permits] [carbon rules] [fossil fuels] [Europe] [energy] [emissions trading]

By MATHEW CARR and ALESSANDRO VITELLI
Bloomberg

Companies in Europe, which need allowances to match their emissions output, will be short of as many as 100 million permits a year through 2016, according to Goldman Sachs. 

The gap, worth 647 million euros ($884 million) at recent prices, compares with a surplus of 2.1 billion euros in 2012, EU data show. Carbon futures may more than double by next year to 15 euros/ton amid the curb, said UBS.

The glut, accumulated since 2008, drove carbon permits to a record low and threatened the viability of the world’s largest emissions market. The European Commission is trying to lift prices to levels to discourage the use of fossil fuels and spur cleaner energy by scaling back permits. That is threatening to push up costs for factories, which have sold surplus permits for cash, as their need increases just as the 18-nation euro region is emerging from its longest recession.

“Most industrials weren’t creating a problem for themselves by selling carbon permits that were surplus to requirements,” said Fred Payne, a carbon trader in London at CF Partners, which advised Portugal and Hungary on emissions trading. “Now, it’s an important decision whether or not to sell something that you’re going to need.”

Under the EU’s nine-year-old emissions market, permits allowing the holder to emit one ton of carbon dioxide into the atmosphere are either allocated for free or auctioned to about 12,000 factories and utilities that must have enough to account for their discharges or pay fines amounting to 100 euros a ton.

Free permits

About half of the permits are given away to factories for free, with the remainder sold at auctions. Starting last year, most power utilities need to buy the majority of their permits in almost-daily sales.

EU carbon allowance prices more than doubled from a record low in April and gained 30% this year to trade Friday at 6.47 euros/ton on ICE Futures Europe in London. That compares with a 0.9% gain in the Standard & Poor’s GSCI gauge of 24 commodities.

Prices plunged from as high as 31 euros in April 2006 as the financial crisis damped industrial output, curbing the need for pollution rights. Emissions from companies covered by the EU carbon market dropped 12% in 2012 compared with 2008, according to EU data compiled by Bloomberg New Energy Finance.

Cutting cap

Emitters received for free about 13 billion euros of surplus permits from 2008 through 2012, EU data show. The commission decided to reduce the supply of free permits proposed by nations in the eight years through 2020 by an average 12%, according to an Oct. 22 statement. The cap will be cut by 1.7%/ year.

Economic output in the euro region will probably rise 1% in 2014, after contracting for two years, according to the median of 56 economists in a Bloomberg survey.

Business confidence in Germany, the region’s biggest economy, is at its highest level in 2 1/2 years. Europe’s factories plan to boost spending by 3.4% this year after a cut of 2.7% in 2013, an EU survey shows.

The improving economy will probably spur some factories to buy permits to meet compliance needs just as supplies shrink, according to Russel Mills, the Midland, Michigan-based Dow Chemical’s director of global climate change policy.

Hoarding permits

The largest US chemical maker is facing a shortage in the eight years through 2020 and is poised to buy permits, Mills said, adding that some companies have probably hoarded allowances because of the reduction in handouts.

HeidelbergCement, the world’s third-largest cement producer, may have to buy permits in the period, said Rob van der Meer, its director of EU public affairs in Brussels. The Heidelberg, Germany-based company sold some of its surplus in the eight years through 2013, generating a “significant amount of money,” he said, declining to provide details.

“From 2017 onwards, the situation for the group might change, depending on the cement market development, and we could be short,” he said Jan. 23 in an interview.

The talk of a deficit may be premature as Europe’s recovery is still too fragile to spur demand for permits from the 1,063 companies in the program, Olav Botnen, a senior power analyst at Arendal, Norway-based Markedskraft AS, said by phone.

Slowing inflation

Inflation (ECCPEST) unexpectedly slowed to 0.7% last month, the weakest since October when the figure fell to the lowest since 2009 and contributed to a surprise November interest rate cut by the European Central Bank.

Permits may retreat this year to below 5 euros, or a 23% drop from yesterday’s close, as factories forecasting a surplus will sell some of the 1.3 billion handed out in the next few months, Botnen said.

ArcelorMittal, the emitter with the biggest 2012 permit surplus, may incur additional costs to buy allowances to comply with rules through 2020, the Luxembourg-based company said in its annual report, without providing details. Europe’s biggest steelmaker had 36.6 million tons of spare permits two years ago, EU data show.

“The current EU climate and energy policy is set to lead to major shortages for the manufacturing industry: surpluses in ETS credits built up during the economic slowdown in the crisis years will soon become history,” said Robrecht Himpe, head of European business optimization at ArcelorMittal.

The emissions trading system already means that even the most energy efficient steel plants will have to buy about 30% of their allowances by 2020, Himpe said.

Fewer Allowances

Lafarge, the world’s second-biggest cement maker, sold excess European permits for a total 99 million euros in 2012, down from 177 million euros the previous year, according to its annual report. Lafarge’s 13.1 million-permit surplus in 2012 was the third-biggest in Europe’s emissions system after ArcelorMittal and Tata Steel, EU data show. Christel des Royeries, a Paris-based spokeswoman, didn’t respond to phone messages and e-mails for comments on the company’s permits.

While the surplus of permits built up since 2008 reached an unprecedented 2.4 billion tons on Dec. 31, half the total is already tied up by power utilities to cover future emissions and about another quarter is held by factories, according to James Cooper, an analyst at Bloomberg New Energy Finance in London. That leaves fewer freely available for companies to meet compliance needs.

Stockpiling Permits

The amount will be reduced this year when the EU starts to temporarily withhold 900 million permits from auctions through 2016. The plan known as backloading is expected to start in the middle of next month, the commission said in a Feb. 11 statement. Isaac Valero-Ladron, a spokesman on climate for the European Commission in Brussels, declined to comment.

The auction cuts mean utilities will have to purchase about 1.4 billion tons of allowances more than governments plan to sell through 2018, equivalent to 75% of the region’s annual supply, said New Energy. Prices may climb to as much as 22 euros by 2016, a level last seen six years ago, if factories start stockpiling permits, Cooper said.

“Almost all our clients are short” of permits through 2020, said Jan Fousek, managing director and owner of Virtuse Energy sro, a Prague-based broker that advises manufacturers on carbon markets. “Most of our clients are short even over the next two to three years.”

Pricing power

As the economy improves, emitters with a surplus of allowances will be under less pressure to sell to bolster finances, according to Matthew Gray, an energy analyst for Jefferies Group in London. They may increasingly stockpile permits in a similar way that groups such as the Organization of Petroleum Exporting Countries keep reserves of commodities, said Gray.

“Industrials are like the OPEC of the emissions trading system,” not because they will coordinate sales, but because they know they will probably hold more pricing power in the future as climate rules tighten, he said.

Polluters should consider buying permits in the next two years to match expected levels of output as prices are poised to gain, said Steve Waygood, the chief responsible-investment officer at Aviva in London, which holds ArcelorMittal shares.

“There was a point a couple of years ago when so many commentators were negative on the market itself that it looked plausible that the emissions trading system might be done away with,” Waygood said. “I don’t think that’s true today.”



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Terry O'Malley
02.17.2014

Does this mean that companies that have voucher inventories can use them as collateral to capitalize expansions.

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