EU ETS allowances defy fundamentals to rally

EU emissions trading system (ETS) allowances rose to near four-month highs in week 25, even as fundamentals remained weak in the context of Covid-19 restrictions and plentiful auction supplies.

The EU ETS December 2020 contract ended last week at €24.17/t of CO2 equivalent (CO2e), which was €2.16/t CO2e, or around 10pc higher on the week.

The contract now stands some €2.77/t CO2e above where it ended in May, putting it on track for its steepest month-on-month gain since April 2019, and its third consecutive month-on-month increase for the first time since 2018.

Allowances made modest gains at the beginning of the week, with the front year contract rising by €0.78/t CO2e cumulatively over the opening two sessions after technical support helped carbon prices resist downward pressure from falls seen in the wider European energy complex on 15 June, and as a strong primary market auction settlement provided upside on 16 June.

A fall of just €0.02/t CO2e on 17 June meant the contract maintained the majority of its accrued value in the latter part of the week. And another strong price settlement in that day's primary market auction pushed the contract above key technical resistance levels. This included the 200-day moving average, allowing further gains that ultimately saw the product's value rise by some 7pc on the day. The front year then slipped during the final session of the week following a weaker primary market auction result.

Some analysts suggested the increased presence of speculative investors in the market is leading to more influence of technical levels and moves in wider equities markets on the carbon price. This may help to explain why allowances defied less vigorous moves in the wider energy complex and weak fundamentals to post such strong gains last week.

The German front-year base-load power contract also rose on the week, by some €1.75/MWh.

And with European industry and travel still significantly impacted by restrictions in place to control coronavirus, demand for allowances to cover carbon-intensive activities remains much lower than would be expected under normal circumstances. Full schedules of primary market auctions throughout the month have maintained a steady stream of fresh permit supplies.

But in addition to technical price support, the carbon market continues to sit against a backdrop of potentially supportive supply-side factors in the longer term, including German government plans to cancel a share of allowances alongside coal-fired plant closures, a planned review of the effectiveness of the scheme's market stability reserve next year, and the EU's review of its 2030 emissions reduction target later this year.

Trading volumes

Higher prices spurred buying interest at exchanges last week, with an average daily traded volume of 24.3mn for the December 2020 delivery period recorded at the Intercontinental Exchange (Ice).

This was up from an average of just 18.9 mn/d over the previous week, and was the highest weekly average for the product since week 17, in late April. Traded volumes peaked at 38.3mn on 18 June — the highest for any day since 19 March.

Buying further out on the curve also increased, with an average of 2.6mn December 2021 and 308,000 December 2022 permits changing hands at the Ice, up from 1.9mn and 152,000, respectively, the previous week.

Outlook

Warmer weather in key European demand hubs for the remainder of the month could encourage increased compliance buying as power demand for air conditioning rises, pushing countries deeper into fossil-fuel burn territory.

The latest forecasts show maximum temperatures in Berlin averaging 29°C for the remainder of the month, some 5°C above the seasonal norm for the period.

But EU ETS permit supplies will remain plentiful, with a total of 16.3mn allowances scheduled to be auctioned on the primary market this week, up from 15.9mn last week.

And compliance needs further out on the curve are likely to remain subdued, with limited prospects for carbon-intensive generation over the front year. German clean dark spreads for a 38pc-efficient plant and 2021 base-load delivery held in negative territory throughout last week, ending at minus €0.51/MWh.

By Victoria Hatherick

EU ETS Dec 20 contract vs moving averages €/t CO2e

EU ETS Dec 20 weekly price change €/t CO2e