Lessons learned in the California carbon market in 2021

Carbon allowance markets are booming, with 2021 seeing a record year for trading within the markets; The Intercontinental Exchange (ICE) recorded a 30% increase in global carbon allowance trading last year, to a total of 18.3 billion tonnes of carbon allowances, reports Reuters. Of that amount, California had a record trade of 2.4 billion carbon allowances in its market, an increase from 1.87 billion in 2020, and that number is only expected to continue to rise as pressure mounts. around the shows.

California Carbon Allowance (CCA) prices have been rising at a steady rate for most of 2021. Prices have been driven higher and higher by compliance entities engaging in risk management and thus creating a trend to rising prices, according to Luke Oliver, head of strategy at KraneShares, in a recent white paper.

KraneShares views CCA as a market of particular interest due to the commitment in 2021 as well as the potential for the overall program to tighten this year, which could push prices higher. However, Oliver warns that volatility is expected in the market, especially after the auction which took place at the end of 2021.

Image source: KraneShares

“Prior to the auction, compliance entities and speculators had built physical and futures positions as fewer than expected joined the Q4 auction,” Oliver writes. “The absence of speculators meant an equilibrium price of $28.26 against a futures price of $36, although compliance entities participated with higher than normal demand.”

The market eventually ended up correcting 12% based on the auction news, as well as the margin calls that had been taken on the leveraged positions, causing some of the more aggressive speculators to be eliminated, Oliver explains. He hopes this year will see an increase in the number of auctions that will help reduce volatility in the market; “There is no need for unnecessary event risk in such a critical market,” writes Oliver.

Investing in the California carbon allowance market with KCCA

Last year, KraneShares expanded carbon allowance investing to offer more targeted investment approaches, including in the California and Quebec markets with the KraneShares California Carbon Allowance ETF (KCCA).

KCCA is a fund that provides exposure to California’s cap and trade carbon allowance program, one of the fastest growing carbon allowance programs in the world, and is benchmarked against the IHS Markit Carbon CCA Index. The CCA includes up to 15% of cap and trade credits in the Quebec market.

The index measures a portfolio of carbon credit futures contracts issued by the CCA and only includes futures contracts with a December maturity of the next year or two, while using a wholly owned subsidiary in the Cayman Islands to prevent investors from needing a K-1 for tax purposes.

The fund may also invest in emission allowances issued under another cap and trade system, futures which are not carbon credit futures, options on futures, swap contracts and other investment companies, and notes that are not necessarily traded on an exchange. .

KCCA has an expense ratio of 0.79%.

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