Looking for a commodity that's rising? Try pollution permits

There's one corner of the commodities markets bucking the slump that's sent raw material prices tumbling: pollution permits.

Prices in Europe's market for carbon emission allowances, where companies trade the right to release the greenhouse gas into the atmosphere, gained 10 percent this year after the European Commission took unprecedented steps to prop up the market, attempting to curb a record glut.

The regulator's supply squeeze will help carbon gain another 11 percent by the end of December, according to consultants Energy Aspects Ltd. and Vertis Environmental Finance. Compare that with crude's 30 percent slump since its June peak and Citigroup Inc.'s forecast of a further 30 percent drop. Or ABN Amro Bank NV's bearish forecast for gold, predicting a 29 percent slump by the end of next year.

There's a key difference, of course. Unlike other commodities, supply in the $53 billion market is created by lawmakers. The Commission issues or sells permits to about 12,000 factories and power stations, which must surrender allowances matching their pollution each year. The 10-year-old system forms part of Europe's response to the threat of global warming.

“It is an explicit aim of European Commission to see higher carbon prices,” Bernadett Papp, an analyst at Vertis in Budapest, said Monday by phone. “This is an artificial market created by politicians, not a normal commodity market like oil.”

As prices from copper to gasoline plunge on lower demand from China, the biggest user of raw materials, carbon allowances outside Europe are also gaining. New Zealand carbon contracts advanced 5.5 percent this year and permits in the Regional Greenhouse Gas Initiative, a nine-state trading system in the northeastern U.S., rose 14 percent.

More regional markets may be on their way. President Barack Obama's Aug. 3 Clean Power Plan gives U.S. states the option to set up their own markets to cut emissions. China may start a national trading program in 2016.

“With stronger environmental commitments around the world, the EU emissions trading system will catch attention,” Milan Hudak, former chief energy analyst in Prague at Virtuse Energy Sp zoo, said by email Aug. 28. “This will bring more new long term speculative players who will be willing to withstand short- term gyrations, while price rises will attract also small to medium-size investors.”

Fixing glut

Back in Europe, the market regulator, the European Commission, will next month sign off on a plan to fix the oversupply that drove prices to record lows two years ago. European allowances have more than tripled after falling as low as 2.46 euros ($2.77) a metric ton in April 2013 on ICE Futures Europe in London. They rose 0.6 percent to 8.10 euros at 1:44 p.m. London time Friday.

Vertis's Papp, as well as Trevor Sikorski, head of natural gas, coal and carbon at Energy Aspects in London, forecast prices of 9 euros by the end of the year.

“We see the recent increase of the carbon price as a positive element in our policy for a well-functioning carbon market since it stimulates the use of low-carbon technologies in a more convincing manner,” the Commission said Wednesday by e- mail. “We hope that the trend continues in the weeks and months ahead.”

Regulation has a larger-than-normal impact on prices than in other commodity markets, Michael Hsueh, a strategist in London at Deutsche Bank AG, said Thursday by phone.

'Building Block'

“For those asset managers that deal with green or sustainable investment, it seems quite a natural building block that could fit into their investment theme,” he said. “For the wider investment community, it's maybe not sufficiently mainstream.”

Member states agreed to set up a reserve that will keep some surplus allowances off the market from 2019 as the glut shrank 1.4 percent to 2.07 billion tons in 2014, according to the commission. That's roughly equal to a year's worth of emissions in the system.

The reserve will absorb a percentage of the oversupply each year, bringing supply and demand closer into line and allowing prices to increase, according to a report published by the commission last year. A separate plan approved in February 2014, known as backloading, is withholding 900 million permits through 2018.

“A slowdown in China will moderate European industrial growth, but that is a slow impact compared with the effect of backloading” on prices, Sikorski at Energy Aspects said Aug. 21 by email.