Carbon Monitor Volume 15 Issue 7 – August 2010

NZETS Gathers Momentum – Price Discovery Remains an Issue

Trades have been reported between $18.20 and $18.45 with volumes of 20,000 units being suggested to us.

Forest owners are quoting $17 net proceeds after brokerage for smaller lots. Such large commissions of over 7% don’t make sense when considering these are commodity trades. The commissions should be comparable to simple exchange trades.

Westpac is reported to be buying large numbers of NZU units around $17 and holding them aggregating the parcels to sell for a profit. Their commodities team is very active.

Settlement however is not via exchange platforms. Typical exchange trades via accredited brokers carry a very low settlement or payment/delivery risk. This is typical for share trading where the brokerage houses guarantee settlement and the share delivery. At this stage the settlements are with ‘large entities’ and occur after the transfer of the NZU units is completed. It is only a matter of time before one of these transactions is disputed and there is non payment for NZU units already delivered.

The pre 1990 allocation plan was confirmed by Order in Council on the 5^th July 2010. The first tranche of 38% the allocation of up to 60 NZU units per ha is to be issued on the 30^th November 2011. Most recipients are expected to immediately sell their tax free allocation and the market price will correspondingly dip at least in the short term.

http://www.maf.govt.nz/sustainable-forestry/allocation/

EU Sets Caps for 2013-2020 at 20% below 1990 levels

Greenhouse gas emissions from heavy industry regulated under the European Union’s Emissions Trading Scheme will be capped at 1,926,876,368 tonnes of carbon dioxide in 2013, the EU Commission stated recently.

Under the $100 billion EU scheme, climate-warming greenhouse gases from industry are capped and around 11,000 industrial installations are forced to surrender permits for every tonne of carbon dioxide equivalent they emit.

 

In the scheme’s third phase, which runs from 2013-2020, the emissions cap will then be tightened at an annual rate of 1.74 percent of the average Phase 2 (2008-2012) cap of 2,032,998,912 tonnes, or by 35,374,181 tonnes per year, the Commission said on its website.

 

But the 2013 cap, 2.4 percent below an estimate of 1.974 billion made by the Commission in 2008, could be revised further if new entrants join or emissions reduction projects under the Kyoto Protocol do not yield the number of carbon offsets needed by installations.

 

“Final figures for the 2013 cap may thus not be available before 2013. In order to keep the public informed, the Commission will update the figures in 2011 or later,” the Commission said on its website, adding that any changes should be marginal.

 

The cap is missing emissions from aviation and from new installations, new sectors like aluminium and new gases like nitrous oxide, which will be covered under the scheme from 2013. Carbon emissions from the aviation sector are due to be included in the scheme from 2012.

 

The linear reduction from 2013 will lead to a total cap of around 1.7 billion tonnes by 2020. The cap for 2013 and subsequent years could be reduced further if the EU decides to raise its bloc-wide 2020 emissions target to 30 percent below 1990 levels, up from 20 percent now, the Commission said.

 

The decision reflects the 20 percent reduction target (and) translates into a 21 percent cut in emissions from installations in the EU ETS by 2020 compared with 2005 levels.

Australian Election Called

The new Australian Prime Minister Julia Gillard has announced a general election for late August. Leading strongly in opinion polls she is expected to win.

With a new term secured the CPRS is expected to re emerge shortly after parliament resumes.

Not too soon as New Zealand’s Climate Change Minister announced that there would be no continuation of the NZETS after 2012 if Australia does not move ahead with the CPRS

Of course NZ expects to link the NZETS and CPRS, an issue that was minuted in cabinet discussions the likely restriction prohibiting off shore sale of NZ forest credits to countries outside of New Zealand and Australia

EITG REDD Projects Exceed the Size of New Zealand!

 

Targeted mainly at the European markets, Reduced Emissions from Degradation and Deforestation or REDD is starting to emerge as a major force in the voluntary carbon market and is expected to become part of the successor to the Kyoto Protocol post 2012.

 

So called REDD projects are supporting the voluntary markets. EITG and its partners are active in projects throughout Africa using proprietary mobile phone technology developed for the purposes of managing payments. Using this technology forest can be managed down to the 1 ha level with individuals paid for monitoring and managing the forest rather than burning it down and raising crops that ruin the soil.

 

Customers in supermarkets in Europe then use mobile technology to recognise and track the bar codes on product playing a video for the customer to show the forest conservation activity in action.

 

All of this is the precursor to REDD be accepted in the successor to the Kyoto Protocol post 2012 in part to allow countries to access cheap carbon offsets to compensate for increased emission reduction targets of 20 to 30% below 1990 levels.

 

The scale of these projects is massive, one EITG is currently in the early stages of working on is some 44 million ha. This is over 20 times the total exotic forest estate in New Zealand or 1.6 times the entire area of the country!

 

Currently REDD emissions reductions trade for between 5 and 8 USD per tonne of C02 avoided, or less than half the equivalent Kyoto credits. Prices have been steadily rising due to improved verification and understanding of the benefits by those purchasing the credits.

 

EU Price Update

 

Allowance prices softened with prices of EUA spread around 14Euro.

 

2010 CER prices suggest NZU prices of around $21.29 at the current exchange rate of 0.56.

 

Post 2012 remained around 17.50 Euro or $30.70 NZ for an EUA.

 

www.ideacarbon.com

 

Aviation in EUETS from 2012

 

Flights to and from EU airports will be subject to the EUETS from January 2012. A progressive cap will be introduced starting at 97% of 2012 levels dropping to 95% from 2013-2020. Savings are forecast of some 190mt of C02 annually from inclusion of Aviation.

 

Some 48% of worldwide aviation emissions are covered by the EUETS totalling 744mt of C02

 

Some 82% of the cap will be allocated to operators, with 15% allocation by Auction and 3% held in reserve for fast growing operators.

 

Kyoto instruments such as CDM credits called CER’s and ERU, emissions reduction units both from projects in other developing and developed countries respectively are permitted to cover up to 50% of the reduction efforts. Some 1.3bn tonnes of these credits are expected to be sold in the EUTS from 2008-2012.

 

In real terms the emissions charge is expected to add between 5 and 40 Euro per ticket depending on the distance travelled.

 

Initiatives pioneered by the likes of Air New Zealand in flight profiles and advances in air traffic management are expected to be adopted to in part deal with these caps.

 

Click to access 504,8_Dec_Inclusion_of_aviation_in_the_E.pdf

 

Auctioning Permits to Become the Norm in the EUETS

 

Initially in the period 2008-2012 permits were grand parented, that is given the emitters at no charge based on their past emissions. Some auctions have taken place but these are the exception rather than the rule.

 

It is said that the price collapse from around 30 Euro to less than 15 Euro today was predicated by companies liquidating their ‘free’ allowances to create liquid cash during the financial crisis. The need for short term cash provided a surplus of sellers in the market.

 

The recent trading directive from the EU now states auctioning will be the rule rather than the exception, and there will be no ‘free’ permits for electricity generation.

 

This action will align the EUETS more with the NZETS where (allowing for the 1 for 2 surrender) the principal is that ALL emissions attract a charge. So whilst there is a ‘target’ level of emissions in the EU and New Zealand, in effect all greenhouse gas emissions in the electricity sector as an example will incur a charge. These costs will be borne by consumers.

 

Half the money raised is planned to be used for fighting and adapting to climate change in the EU and in developing countries.

 

http://ec.europa.eu/environment/climat/emission/auctioning_en.htm

 

Treatment of Fire Losses in the NZETS Clarified

 

Earlier this year Carbon Monitor reported on a fire in New Zealand’s South Island near Dunedin. Reported as post 1989 Kyoto Forest there was speculation as to what would happen to the loss of carbon on site if NZU units had been issued and sold.

 

The NZETS sets a rule for the decay of remaining timber on site post harvest as an arbitrary ten year term at 10% loss per year during the 10 years.

 

In the event the fire resulted in recovery of timber, the timber removed from the site would result in an immediate deemed emission and the balance of the carbon on site would be removed over the ten years on a straight line basis meaning the forest owner would have to surrender credits on the same basis.

 

Clearly a fire affects the decay process potentially ‘sealing’ the burned timber and arguably any carbonised timber would result in long term sequestering of the carbon.

This is another circumstance with the Kyoto Protocol where science and fact diverge with the ‘rules’.

 

In any event it appears the forest that was lost was pre 1990 and under the protocol the loss is reversed by simply replanting the affected area.

 

Thanks to Clayton Wallwork of Greenco for his help in clarifying the situation. http://www.greenco.co.nz

Carbon Monitor Volume 15 Issue 6 2nd July 2010

New Zealand Emissions Trading System Comes into Force

Power bills and fuel prices will increase when the NZETS comes into force on the 1^st July 2010.

Mercury Energy, part of the Government owned Might River Power, wrote to its retail customers indicating it will increase its electricity an average of 3.3% or $5 per month and 2.3% or $1.70 per month on its natural gas charges. The pending GST increase October 1^st will add another 2.5% to all bills.

Given Mighty River Power is highly weighted towards hydro electricity which is exempt the emissions charge one would assume coal fired generators like Genesis and Contact energy will increase prices significantly more than the 3.3%. However Contact on their web site state that their average electricity price will increase only 3.2% for those not on their ‘two winter price promise’ and 2.2% for gas.

Emitters are required to surrender 1 NZU for every two tonnes of C02 emitted into the atmosphere post 1^st July or otherwise pay the Government $25 NZD.

The $25 cap is ‘temporary’ until 2012. Meanwhile industries identified ‘at risk’ are being allocated ‘free’ NZU units to offset their emissions. Most recently the fishing industry, which is heavily fossil fuel intensive, had some 700,000 units set aside for those companies with fishing quota as at 24^th September 2009. This ‘free’ allocation is designed to help these companies continue to compete on international markets. Companies must apply for these units.

Farmers complain giving money to forest owners won’t solve the climate change issue and note that the ETS will mean a reduction of 12.5% in profitability for the average sheep farmer despite that fact that agriculture remains exempt from the ETS.

Issues with HFC Projects under the CDM has Potential to Significantly Reduce CER supply

Under the so called Clean Development Mechanism, or CDM developed countries can sponsor projects in developing countries that would otherwise not happen and receive carbon credits called Certified Emissions Reductions or CERs. Such CER’s are eligible for the EU emissions trading system and the NZETS.

Prices for a secondary CER, that is one issued from a project by the UN after third party verification trades at a slight discount to the main European credit the EUA. The discount once substantial has reduced to less than 20% or 15.40 for an EUA and 12.50 for a CER. However primary CERs (those sold before they are verified and issued) trade at a significant discount. Why? In the past projects have significantly underperformed in terms of the volume of CER projected by the project versus those actually issued. This creates the risk the units purchased will not in fact be available.

Mine methane offset projects where methane that would otherwise escape into the atmosphere is captured and burned have underperformed in projected CER volumes, sometimes over 30% below that projected in the project document lodged with the UN. Whilst burning methane creates C02, methane has a GWP or global warming potential of 21 (1 tonne of methane is the same as 21 tonnes of C02) combustion effectively reduces greenhouse gases in the atmosphere significantly.

Recently HFC-22, the replacement for CFC in fridges and air conditioning (remember the ozone hole of the 1980’s) has become the focus for questionable CDM projects. HFC-23 is a by product of manufacturing HFC-22. Originally the darling of CDM as each tonne of HFC-23 removed from the atmosphere is the equivalent of 11,700 tonnes of CO2 being removed yielding a huge 11,700 CER units. These projects are now coming under scrutiny with some having the amount of credits drastically reduced.

CDM watch, www.cdm-watch.org recently reported that the 19 registered CDM HFC projects would create half the 1 bn CER’s issued up to 2012. China has the vast majority of these projects with 11 registered. The estimated cost per tonne of C02 equivalent is USD$0.20 with an income of over 70 times that.

Estimates vary, but using the perverse incentive of manipulating what is called the ‘base line’ that is the case of business as usual before a project commences, some 90% of the HFC-23 may not be eligible for CER credits.

This could have the effect of removing 45% of the projected CER supply to 2012 and significantly alter the dynamics of the Carbon Markets leading to price increases and potential volatility.

CDM watch, an organisation set up in April 2009 was established by NGO’s (non government organisations) to create an independent perspective on CDM projects with a goal of creating a reformed CDM post 2012 that has better verification and creates sustainable development in CDM host countries.

New Australian PM Walks Carbon Tightrope

The new Australian Prime Minister Julia Gillard has reactivated the carbon debate and called for limits on carbon emissions in Australia.

Reuters notes that this debate has cost at least 4 Australian leaders their jobs in recent times and quotes Gillard as saying the process ‘needs to be carefully explained to the Australian people’ and of course needs the support of the Greens in the Senate to pass into law.

Typical of the diversity of the debate is the fear of blue collar workers facing increased power bills whilst white collar workers want action on climate change. This has the potential split voters creating the perception of the issue undermining the current Government’s support. It is widely reported that disgruntled Green voters swept Rudd to power and the reigniting of this issue will have the effect of placating their concerns as to the lack of progress and what was perceived as ex Prime Minister Rudd’s backing down from an ETS.

Reality is the new Prime Minister is talking the talk and it will take some time for a cohesive plan to emerge than can be ‘sold’ to the Greens as a repeat of an embarrassing loss in the Senate wont help her consolidate her position.

So expect more talk, behind the scenes negotiations and the large emitters placing pressure on the politicians. Potentially with the NZETS now coming into play the Australians can see a set of fully fledged regulations including process of ‘free’ allocation to industries ‘at risk’ and this may help their building a palatable ETS for all stakeholders

Carbon Brokers and the Financial Advisors Act

 

The New Zealand Financial Advisers Act 2008 (FAA) and its companion legislation, the Financial Service Providers (Registration and Dispute Resolution) Act 2008 (FSPA), are currently being finalised and will come into force from the end of this year. 

Broadly, the FAA requires all financial advisers to be registered and some financial advisers to be licensed.  The FAA also sets out disclosure, conduct and qualification requirements for financial advisers.  Similarly, the FSPA requires all financial service providers to be registered and to join an alternative dispute resolution scheme..  The definitions for “financial adviser” and “financial service provider” are still subject to review by the government.

Recent media commentary has suggested that carbon brokers will be outside the regime set up by the FAA and FSPA.  However while brokers trading physically settled emissions units may fall outside the definition of “financial advisers”, they may still be financial service providers.  Further, brokers trading cash settled derivatives on carbon or emissions units are likely to be both financial advisers and financial service providers.  Such cash settled instruments are likely to be “futures contracts” under the Securities Markets Act 1988.  The regulatory requirements of the Securities Markets Act, as well as the FAA and FSPA requirements for futures contracts will apply.

This area is complex and Buddle Findlay Alastair Cameron
04 498 7340

alastair.cameron@buddlefindlay.com
may be able to assist.

EU Price Update

 

Allowance prices remained steady for most of the month with prices of EUA spread around 16 Euro.

 

2010 CER prices suggest NZU prices of around $22.80 at the current exchange rate of 0.57.

 

Post 2012 remained around 17.50 Euro or $30.70 NZ for an EUA.

 

www.cantorco2e.com

 

Carbon Forestry Workshops Excellent Source of Information

 

Run recently by the University of Canterbury and MAF these workshops provided forest owners with objective information on whether or not to participate in the ETS and the potential returns.

 

The presentations were analytic and chose to use the LEV or land expectation value as a measure of performance.

 

Akin to the Net Present Value, the LEV for forest owners was set at an 8% real (net of inflation)

 

Current log prices (which have increased in the last 6 months) provide an LEV per ha of less than $1000 and a narrow window in which to achieve this around age 25. Currently forest land can be purchased at $3000 per ha or more.

 

The effect of a carbon credit income at $20 per tonne with the associated surrender obligations was examined and yielded LEV of over $5000 per ha, and more importantly permitted a much wider time period in which to achieve this. Carbon income effectively widens the window for harvest to at least 5 or more years.

 

Its common sense with carbon income each year one can delay harvest but seeing the analysis really cements home the business benefit of the carbon income.

 

Some work was presented on the sensitivity of the LEV to the increase or decrease in carbon prices over time. These demonstrated that assuming a steady increase of say 5% pa for carbon prices from a base of $20 to $32.50 in 10 years time would have a minor effect on LEV. What this means is that steady increases in carbon prices present less risk to forest owners than expected. However if prices jump then the situation they cautioned is quite different. Given the Kyoto period is 5 years (2008-2012) and each 5 years a new agreement is expected, and that is likely to call for more drastic emissions reductions the modelling may not be valid.

 

Extensive discussion was made on the comparison of the MAF look up tables and the actual measurement regime. It would appear the tables are significantly (up to 20%) below the actual carbon stored. Analysis of the cost benefit of measurement versus tables indicated using LEV as the outcome, that measurement could be cost effective on a block larger that 10ha on the basis of $200 per sample plot.

 

At this stage the measurement guidelines are not in place and MAF appears to favour separate sample plots than those already in most forests and potentially will dictate their location to avoid ‘gaming’ using existing sample plots.

 

EITG says this does not make sense, given the existing sample plots have been chosen to accurately estimate timber production. Carbon content is derived directly from standing timber volume. The measurement issue will be open for submissions later in 2010 and we recommend all forest owners make submissions.

 

The slide presentations are expected to be released on the climate change web site shortly.