More downside risk seen for hard-hit EU carbon market

By Jeff Coelho

LONDON | Fri Nov 4, 2011 12:28pm EDT

(Reuters) – Prices of European Union carbon permits have shed a third of their value since the start of the year and could fall further as the euro zone crisis, a glut of carbon permits and an aviation spat depress market sentiment, analysts said on Friday.

Hard times have affected the EU emissions trading scheme, the bloc’s main policy tool to fight global warming by capping emissions on some 11,000 carbon-intensive power stations and industrial plants in 30 countries.

The benchmark European carbon dioxide (CO2) permit was trading at 9.48 euros at 1446 GMT on Friday, not far from a 33-month low of 9.37 euros hit the day before.

The economic outlook has been a key driver for prices of EU allowances (EUAs), because the euro zone’s fiscal crisis could trigger a repeat of the 2008-2009 recession and dry out demand for carbon permits, analysts said.

“I see much more downward risk on prices than the other way around,” Isabelle Curien, a carbon analyst at Deutsche Bank in Paris, said in an emailed statement.

“If EU leaders are able to formulate a credible plan for resolving the EU sovereign debt crisis, we think EUAs will rebound in 2012.”

The 2008-2009 economic slump was the main reason why CO2 emissions in the bloc’s cap-and-trade scheme fell 11 percent year-on-year during that period, driving down the benchmark permit to a record low 8.05 euros on February 12, 2009.

An analyst at Paris-based Societe Generale said the front-year EU allowances could slide back toward 8 euros before moving back up. “If you want short-term returns, carbon is too risky,” said Emmanuel Fages.

“If you are ready to sustain some short-term losses, then it is a good buy for 2012,” he said, pointing out that some demand could come from utilities needing to buy CO2 permits to hedge forward sales of carbon-intensive generation up to three years out.

AVIATION, SUPPLY

Politically, EU plans to include the aviation sector in the carbon scheme next year have come under attack by 26-nations including the United States. On Thursday, a U.N. body urged the bloc to scale back its plan to exclude non-EU carriers. [nN1E7A11BK]

Heiko Siemann, an analyst at UniCredit SpA in Munich, cited the “smouldering conflict” as an issue of “real concern” for the carbon market.

The European Commission has repeatedly said it will not back down. However, it told the China Air Transport Association in June there were provisions the rules of the EU Emissions Trading Scheme (ETS) to exempt airlines of countries taking equivalent steps to cut emissions from aviation.

Deutsche Bank’s Curien said the bank could revise down its forecasts for net carbon demand over the 2013-2020 trading period “should the aviation leg of the EU ETS be amended.”

Analysts forecast the EU carbon market to be oversupplied with hundreds of millions of permits for the next several years, although that gap would be narrowed should emission caps be enforced for all airlines landing in and leaving from the 30 European countries taking part in the ETS.

“There is no debate that the ETS will end up massively oversupplied in the Phase II (2008-2012 trading period) and beyond,” said Kris Voorspools, a director at 70Watt Consulting. “Carbon may well stay in the sub-10 (euros) range for a long time.”

(Editing by Anthony Barker)

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