German Power, Oil - what fuels CO2 prices?

During the last weeks we saw a steady increase in CO2- prices. EUA Dec.08 increased from about 25.20€/t in May by approx. 4.0€ to 29.20€/t until 1 July. During that phase we saw the Dec12 break the 33€/t and even the 34€/t. The bullish trend was also seen in the whole energy market, especially for Crude oil, NBP gas and electricity prices. During the last weeks it has been observed, that the EUA prices were correlating stronger with the oil prices, than with the German power prices.

Rising oil prices lead to rising CO2 prices. The reason for this is not too surprising. Through index-linked formulas, the oil price pulls the gas price, making, on the other hand, carbon-intensive coal more attractive to energy suppliers to burn for their energy production. That in return leads to an increased demand for EUAs.

During the same period, sCER prices were even outperforming EUA prices. The sCER contract rose to its peak until Mid June by approx. 5 € to 21.90 €/t for Dec08 contracts. There are several reasons fuelling the price development of sCERs. The main reason is the fresh downward adjustment of CER/ERU supply forecast, with lower volumes expected in 2010-2012. According to Point Carbon, the declining revision was 1.6% down from their previous estimate. The strong price increase of sCERs has led to a narrowing of the EUA-sCER 08 spread by approximately 1€.

Another interesting question is, how the market reacts towards the uncertainty of the connection between ITL and CITL (see the article on this topic in this Newsletter). Many companies planned to use CERs for their 2008 compliance. To do so, the connection has to be functional before May 2009. If the link is not running, ETS participants will need to borrow EUAs from 2009 or try to purchase their EUA need on the market. This would also pull EUA prices up.

There are several factors having influence on the development of EUA prices and currently, the only way the CO2 prices are going seems to be upwards. Many market analysts corrected their EUA price estimations for 2008-2012 upwards recently. Point Carbon e.g. updated their average price forecast for 2008-2012 by 2€ to 32€/t and forecast an average price of 25€/t, for 2008. At the moment, it seems, that CO2 prices are driven by oil prices and they seem to stay bullish, although OPEC promised a higher oil supply, during their meeting at 22 June 2008.

Currently, it seems that oil prices have a strong influence on the CO2 prices. However, political decisions like the link between ITL and CITL or the level of CER/ERU which will be used after 2012, still influence the rather immature carbon market.