U.S. Carbon Trading Centers on California

Product Launches Set for the State as Emissions Exchanges Gear Up to Compete in Global Efforts

California will become the next test site for emissions trading in the U.S. as exchanges line up new climate-related markets in the state, following the shelving of a national cap-and-trade plan to cut greenhouse gases.

Three exchange groups are preparing product launches for California after voters endorsed the state’s 2006 climate law in a referendum earlier this month. Supporters believe California will breathe new life into a U.S. carbon-trading market that has fallen dormant after a federal program was shelved this summer and interest cooled in other regional initiatives.

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“It’s fair to say the focus of the U.S. [carbon] market at this point is 90% on California,” said Lenny Hochschild, a managing director at Evolution Markets, a carbon brokerage firm and partner in the Green Exchange, an emissions-focused venture co-owned with CME Group Inc. and a group of banks.

Carbon allowances and related derivative products are viewed by the exchange industry as a key long-term asset class that some advocates believe could grow into one of the largest derivatives asset classes.could become one of the largest commodities markets globally.

The volume of contracts on European cap-and-trade-emissions-related markets is seen approaching €100 billion ($136 billion) a year, and growing fast.

Asia has moved ahead with its own efforts, while China has pledged to reduce carbon emissions by as much as 45% through 2020 and is considering cap-and-trade pilot programs focused on specific cities.

Josh Margolis, chief executive officer of CantorCO2e, the environmental-markets arm of Cantor Fitzgerald, estimates that California’s carbon market will increase to between $3 billion and $58 billion over the eight years of the test program. The size depends on how many pollution allowances the state gives away for free, and whether allowance prices remain close to the state’s proposed floor of $10 a ton of carbon dioxide or instead move higher to $25 a ton of carbon.

From 2012, rules adopted by the California Air Resources Board will set a cap on most of the state’s carbon-dioxide emissions—notably from power plants, vehicle fuels and heavy industry—and reduce that ceiling over eight years.

The state will issue pollution allowances, most of them at no or low cost in the early years, with higher prices expected in later years when the allowances are to be sold in auctions. Running these auctions is expected to offer another opportunity for market operators.

Companies that cut their emissions and have more allowances than they need can sell them to companies that are unable to cut their emissions. Emitters can also purchase carbon credits, or offsets, from developers of emission-reduction initiatives, such as forest-protection projects, to comply with their requirement.

“Anybody who has a significant carbon footprint is going to be looking at the need to make reductions or acquire credits,” Mr. Margolis said.

Several large exchange operators are vying to become the dominant emissions-trading hub.

Tom Lewis, chief executive of the Green Exchange, said the exchange is preparing a “pipeline” of derivatives contracts based on the California program.

“We’re following it closely,” said Jeffrey Sprecher, chief executive of IntercontinentalExchange Inc., which paid $603 million in July for the parent of the Chicago Climate Exchange, gaining the dominant platform for European emissions trading and a valuable joint venture in China.

California represents a fresh chance for the Climate Exchange’s Chicago-based U.S. unit, which ICE drastically scaled down after federal cap-and-trade efforts ran aground in Washington and after the overturning of acid-rain regulations dried up domestic trade on its markets. The Chicago Climate Exchange’s long-running voluntary carbon-trading program will end next month.

Also joining the fray is NYSE Blue, a planned joint venture between the existing European carbon market run by NYSE Euronext and environmental-market technology firm APX Inc.

The joint venture will seek to leverage APX’s role in building California’s carbon-offset registry as the exchange targets a launch for U.S. trading operations next year.

Write to Jacob Bunge at jacob.bunge@dowjones.com and Cassandra Sweet at cassandra.sweet@dowjones.com

Copyright 2011 Dow Jones & Company, Inc. All Rights Reserved

 
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