emission allowances

Does the spread between coal and gas prices affect the price of EU emissions allowances?

IAFA ConferenceNUI Galway, May 2012

Peter Deeney

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What’s an Emission Allowance?What Changes Price?Data Regression AnalysisConclusion

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Permission to emit one tonne of CO2.

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Permission to emit one tonne of CO2.

........How much should this cost?

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European Emission Allowances - EUAs

Certified Emission Redutions - CERs.

Emission Reduction Units – ERUs.

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European Union Emission Allowances EUAs

Issued by EU ETS, soon to be auctioned rather than given out for free.

Quantity capped and agreed years in advance.

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Certified Emission Reductions CERs

Issued by UN to non Annex countries so that CO2 reductions can be achieved in developing countries.

Problem with additionality.

Presently flooding market and dropping EUA prices.

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Emission Reduction Unit ERU

Created in the Annex countries. Less worry about delivery.

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Cap puts a limit on the amount of GHG from regulated emitters in EU.

Trade allows free trading of these allowances so that emitters can reduce their own GHG emissions and sell their allowances, or not reduce their own and buy emission allowances from elsewhere.

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Scarcity

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Scarcity

(Perception of high activity or cheap fuel)

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Scarcity

Abundance

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Scarcity

Abundance (Perception of low activity or over

allocation.)

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Emission AllowancesChanges in Price LiteratureDataMethodsConclusion

Chevallier, J. (2009) Carbon Futures and Macroeconomic Risk Factors: a view from the EU ETS

Fuel switching is more important for EUA prices than macro-economic variables.

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Chevallier, J. (2011) A Model of Carbon Price Interactions with Macroeconomic and Energy Dynamics

Returns on carbon futures are influenced by equity dividend yields and junk bond premiums

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Delarue et al. (2008) ‘Fuel Switching in the Electricity Sector under the EU ETS: Review and Prospective’

Focuses on abatement in European electricity generation and finds that the spread between gas and coal and the load required are larger influences than EUA prices on the level of reduction of CO2.

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Increasing Gas – Coal spread should decrease use of gas increase use of coal, increase GHG,

Increase EUA price.

Increasing Stoxx should increase expected GHG and increase EUA price.

Increasing Brent should reduce oil used as fuel, reduce GHG output and reduce EUA.

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Increase Consumer Goods indicates increased use and purchase, hence increased GHG, increased EUA

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Brent

Consumer

Spread

Stoxx

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13th March 2010 to 14th March 2012

DataStream Brent Crude Futures, US$, Stoxx, NBP Gas, European Consumer Goods Price Index,

ICE 3Month Futures prices for AP12 coal Rotterdam. All prices were converted to Euro, futures were

discounted at Euribor rate

EUA are not physically needed,

Required in March by regulated emitters.

https://www.theice.com/marketdata/reports/ReportCenter.shtml#report/10

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6

8

10

12

14

16

18

2011

EUA

5500

6000

6500

7000

7500

8000

8500

9000

9500

10000

10500

2011

BrentEuro

200

210

220

230

240

250

260

270

280

290

300

2011

Stoxx

280

300

320

340

360

380

400

2011

Consumer

0

20

40

60

80

100

120

140

160

2011

Spread

The quoted marginal costs are in Delarue and D’haesseleer (2007) in the International Journal of Energy Research, and state that the marginal cost of electricity using coal is 0.67 that of electricity using gas.

The two time series of coal and gas prices were adjusted to have the ratio of their means equal to 0.67.

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Check for spurious regression. The usual method is to avoid spurious regression is to check the first differences of the data. A more sophisticated method is to check for non-stationarity (ADF) and then check for co-integration (Johansen).

Multiple Comparison Problem a test with a significance of 5% will be wrong 5% of the time.

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The p value is the probability of observing the data with the hypothesis that the time series is not stationary.

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Two Years EUA, non-stationary p= 0.92 ChEUA, stationary p= 10-7

Brent, non-stationary p=0.90 ChBrent, stationary p= 10-26

Stoxx, non-stationary p= 0.53 ChStoxx, stationary p= 10-36

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Two Years Consumer, non-stationary p= 0.61 ChConsumer, stationary p= 10-9

Spread, non-stationary p = 0.7777, ChSpread, stationary p= 10-15

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The p value is the probability of observing the data with the hypothesis that there are the rank number of co-integrating vectors.

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Two Year EUA, Brent, Consumer, Stoxx and Spread for

co-integration as they are all I(1).

Result: Inconclusive Rank 0 p = 0.4270 Rank 1 p = 0.9017 Rank 2 p = 0.9580 Rank 3 p = 0.9246 Rank 4 p = 0.9909

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Two Year EUA = 5.54 *** - 0.000976 Brent *** - 0.00809 Consumer

- 0.0143 Spread * + 0.0715 Stoxx ***

R2 = 69%

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Brent

Consumer

Spread

Stoxx

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6

8

10

12

14

16

18

Apr Jul Oct 2011 Apr Jul Oct 2012

EU

A

There seems to be a two phase behaviour in EUA prices. Up to 16th June 2011 there is reasonably stable prices and after this there is a steady decline.

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First Period EUA, non-stationary p= 0.82 ChEUA, stationary p= 10-6

Brent, non-stationary p= 0.90 ChBrent, stationary p= 10-5

Stoxx, non-stationary p= 0.61 ChStoxx, stationary p= 10-31

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First Period Consumer, non-stationary p= 0.93 ChConsumer, stationary p= 10-7

Spread, non-stationary p = 0.77 ChSpread, stationary p= 10-8

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First Period EUA, Brent, Consumer, Stoxx and Spread for

co-integration as they are all I(1).

Result: Positive Rank 0 p = 0.011 Rank 1 p = 0.252 Rank 2 p = 0.540 Rank 3 p = 0.512 Rank 4 p = 0.130

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First Period EUA = 16.35*** + 0.000827 Brent *** + 0.0228

Consumer*** - 0.0287 Spread *** - 0.0501 Stoxx ***

R2 = 40%

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Brent

Consumer

Spread

Stoxx

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Second Period EUA, curious p= 0.025 ChEUA, stationary p= 10-25

Brent, non-stationary p= 0.96 ChBrent, stationary p= 10-7

Stoxx, non-stationary p= 0.49 ChStoxx, stationary p= 0.0069

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6

7

8

9

10

11

12

13

14

15

16

Jul Aug Sep Oct Nov Dec 2012 Feb Mar

EU

A

Second Period Consumer, non-stationary p= 0.75 ChConsumer, stationary p= 0.0001

Spread, non-stationary p = 0.63 ChSpread, stationary p= 10-12

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Second Period EUA, Brent, Consumer, Stoxx and Spread for

co-integration as they are all I(1).

Result: Positive Rank 0 p = 0.066 Rank 1 p = 0.228 Rank 2 p = 0.401 Rank 3 p = 0.541 Rank 4 p = 0.882

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Second Period EUA = 19.34*** - 0.00218 Brent *** + 0.00592 Consumer

- 0.0186 Spread ** + 0.0345 Stoxx *

R2 = 70%

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Brent

Consumer

Spread

Stoxx

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The regime modelling displays co-integration

The affect of Brent crude, consumer prices and the Stoxx seem unclear

The affect of the spread Gas – 0.67Coal is to decrease the EUA price. This is consistent across time periods.

Results from Diff and Ch vvvvvvvvvvvvvvvvv

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Brent ?

Stoxx ?

Consumer ?

Spread

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Residuals against Date should not show an interesting pattern....

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-1.5

-1

-0.5

0

0.5

1

1.5

Apr Jul Oct 2011 Apr Jul Oct 2012

resi

du

al

Regression residuals (= observed - fitted ChEUA)

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-5

-4

-3

-2

-1

0

1

2

3

4

Apr Jul Oct 2011 Apr Jul Oct 2012

resi

du

al

Regression residuals (= observed - fitted EUA)

7 peaks over 2 years?

This also happens in the Regime models.

Seasonal

Buy EUA for March

Data – discounting from futures and forwards

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