Audio Blog: The Changing Landscape of Climate Risk Disclosures

Market expectations on corporate climate risk disclosures are fast changing as corporations, investors, and regulators are attempting to increase efficiency and strengthen economic resilience through more transparency. This panel discussion, held at the 2017 Climate Leadership Conference on March 1, 2017, provides an overview of recent developments by US and EU regulators and Bloomberg’s Task Force on Climate-related Financial Disclosures. Panelists shared how they are responding to the new regulatory context, challenges and opportunities arising from understanding climate impacts on business and markets, and expectations for further developments.


  • Emilie Mazzacurati, Founder & CEO, Four Twenty Seven (moderator)
  • Laline Carvalho, Director of the Financial Services Ratings Group at S&P Global
  • Tim Dunn, Founder and Chief Investment Officer, Terra Alpha Investments LLC
  • Mardi McBrien, Managing Director, Climate Disclosure Standards Board
  • Richard Saines, Partner; Head of North American Climate Change & Environmental Markets Practice, Baker McKenzie

You can listen to a recording of the panel here. Note that due to a technical issue with the recorder, the introductions from Laline Carvalho and Tim Dunn were unfortunately not captured.

For more information about the Taskforce on Climate-related Financial Disclosures, read our blog posts:

You can also watch our webinar discussing TCFD next steps, and issues to consider for implementation.

New EU Directive Requires Pension Funds to Assess Climate-related Risks

EU FlagOn December 8th, 2016 the EU adopted a new regulation regarding Pension Funds, the IORP II Directive — the successor of the Institutions for Occupational Retirement Provision Directive adopted in 2003. The directive’s main objectives are to enhance pension funds’ governance, risk management and supervision, and to facilitate cross-border activities.

A key feature of the directive is the consideration of environmental, social and governance (ESG) factors as part of pension providers’ investment. In particular, pension providers are now required to carry out their own risk assessment, including climate change-related risks, as well as risks caused by the use of resources and regulatory changes.

Moreover, the Directive explicitly allows pension funds to take into account ESG factors in investment decision-making, within the ‘prudent person’ rule. This comes as an important clarification as fiduciary duty is often cited by investors as a reason they cannot pay more attention to ESG issues in investment processes.

The implementation of the Directive

IORP II applies to all the 14,358 registered EU pension funds, among which 160 have cross-border activities.

Member States (EU countries) have until January 13, 2019 to transpose IORP II into their national law, which was published early January in the Official Journal of the European Union. According to current projections, the implementation deadline should therefore fall before Brexit, an important fact considering that the UK accounts for 50 percent of the EU occupational pension fund sector, followed by the Netherlands (33 percent).

A new risk assessment covering climate-related physical risks

The risk assessment is to be carried out every three years or after any significant change in the risk profile of the pension funds “in a manner that is proportionate to their size and internal organization, as well as to the size, nature, scale and complexity of their activities”.

The assessment must cover “new or emerging” risks, “including risks related to climate change, use of resources and the environment, social risks and risks related to the depreciation of assets due to regulatory change”.

The Directive’s preamble invites EU member states to use the Principles for Responsible Investment (PRI) as a reference for ESG and climate change-related reporting requirements and states that “the relevance and materiality of environmental, social and governance factors to a scheme’s investments and how they are taken into account should be part of the information provided by the scheme under this directive”.

While physical impacts of climate change are not mentioned in these terms, the inclusion of risks related to climate change, use of resources and social risks clearly point to the inclusion of physical impacts, in addition to regulatory and energy transition risks. National transpositions might provide more explicit guidance.

Beyond compliance considerations, pension funds are particularly exposed to climate risks given their long-term investment profile. The longer an asset manager’s time horizon, the more climate-related risks increase. As pension funds also tend to be particularly risk-averse, taking into account climate-related risks is crucial for effective risk mitigation. In 2015, the Economist Intelligence Unit valued the average expected loss as a result of climate change across scenarios as $4.2tn in financial assets.

Considering that EU pension funds now manage more than €2.5 trillion ($2.65 trillion) in combined assets, the assessment of physical climate risks will require considerable effort to access raw climate data at asset level, select appropriate indicators, and interpret the output.

Climate-related regulatory efforts gaining momentum

The adoption of this new climate risks mandatory disclosure at EU-level follows the adoption of an pioneering climate risk reporting law for asset managers and asset owners in France, discussed in a previous post, and occurs almost concomitantly with the release of the Task Force on Climate-related Financial Disclosures (TCFD) Phase II Report discussed  in a policy brief and a webinar.

European central banks and financial regulators are increasingly aware of the threat to financial stability of sudden market adjustments caused by climate-related risks. The concern is that the scale of impacts would pose a systemic risk to the financial system as a whole. A growing number of public institutions are paying attention to this issue including De Nederlandsche Bank; the Bank of England; Finansinspektionen; the SEC and the ESRB.

Four Twenty Seven helps investorsFortune 500 companies and government institutions understand how to quantify and monetize climate change impacts on operations as well as social factors that affect their value chain. Our clients rely on Four Twenty Seven’s tools and models to factor into financial and operational planning processes. Learn more about how we are helping our clients assess and adapt to climate risks.


You can find the full text here and the impact assessment made by the European Commission here

A handbook by Lane, Clark & Peacock on the IORP II


Redefining Climate Risk

Comment Letter from Four Twenty Seven to Task Force on Climate-Related Financial Disclosures. (Download full letter here)

May 23, 2016

Dear Chairman Bloomberg,

Four Twenty Seven, Inc., a climate resilience research and advisory firm, is pleased to submit this letter of comment for your consideration and to help inform the work of the Task Force on Climate-Related Risk Disclosures (TCFD) during Phase II.

We commend you for the important work undertaken by the TCFD and your deliberate efforts to engage practitioners and stakeholders in providing input along the way. Providing guidance around climate risk disclosures is a critical step not only to help ensure financial markets will not be blindsided by predictable risks, but also to ensure that investors send the appropriate price signals to the decision-makers for the underlying assets – from corporate boards to public officials and real estate owners — thus providing an incentive to better prepare for and adapt to the physical impacts of climate change.

Our comments stem from years of working closely with Fortune 500 corporations to help them understand climate change impacts, quantify risk and monetize costs. We anticipate this type of analysis will need to become widespread for corporations to comply with the forthcoming guidance from the TCFD, and wanted to share our lessons learned from our past work.

Our comments, detailed below following the questionnaire structure, center around two key takeaways:

  1. The need to redefine climate risk to better account for direct and indirect risks related to the physical impacts of climate change. Regulatory, technology or transition risks are by no means confined to greenhouse gases, and focusing a disclosure framework only on extreme weather events and direct physical impacts would be deeply misguided. It is critical that corporations understand, address and disclosure their exposure to risks and opportunities related to transition risk due to:
  • Regulatory changes driven by climate change (e.g. changes in underground water regulation, permitting, zoning, etc.);
  • Costs and revenues associated with finding and deploying adaptive technologies to improve corporate resilience, mitigate risk exposure and promote more efficient resources use;
  • Costs associated with capital expenditure, retrofitting or moving facilities, infrastructure and other critical assets out of harm’s way.
  • Costs and revenues associated with increasing the company’s adaptive capacity, ranging from increased legal and insurance costs to investments in human capital, supply chain risk management, engagement with local governments to support climate adaptation efforts, and other public-private partnerships.
  • Macro-economic and financial risk for property owners, market risks for certain products, etc.


  1. The need to incorporate climate data into decision-making processes and provide vulnerability assessments at the asset-level for both corporations and investors.
  • Corporations need to utilize fully the wealth of climate data and projections that are available, and leverage sophisticated techniques and models to incorporate uncertainty into their decision processes.
  • Climate risk analysis must be performed at the asset-level, even if the final disclosures do not include all the asset-level data, and should rely on common standards, assumptions and scenarios to enable comparison across assets and across markets.
  • Risk assessments should be subject to third-party verification to ensure they are complete and cover all the material risks.

Download Four Twenty Seven’s Comment Letter (FourTwentySeven_PhaseI_CommentLetter) for our detailed analysis on climate risk reporting.

Five Ways to Improve your Climate Risk Reporting

Climate Disclosure By S&P 500 Companies: 10-Ks Filed 2009-2013. Source: Ceres 2014.

More companies report climate risks, but few do it well

According to Ceres, just shy of 60 percent of S&P 500 companies report climate risks in their financial disclosures (10-K), but the quality of disclosures is going down over time. “Most S&P 500 climate disclosures in 10-Ks are very brief, provide little discussion of material issues, and do not quantify impacts or risks” writes Ceres in Cool Response: the SEC & Corporate Climate Change Reporting. Companies typically include no more than “one short paragraph or a couple of lines focused on climate-related risks or opportunities.”

Uncertainty or Complacency?

three wise monkeysWhy are companies so shy in disclosing climate risks? Part of the answer is that the uncertainty around climate change hazards – their magnitude, timeliness or location – make it difficult for companies to assess whether the risks qualify as “material”. More often than not, however, the timid reporting has more to do with the lack of a systematic risk analysis, backed by an established methodology and solid benchmarks. Politics and concerns over liability also play a role in a hushed reporting tone, whereby companies may think they are better off avoiding the topic altogether rather than providing partial and potentially inaccurate information.

Thinking Beyond Carbon Regulatory Risk

The potential for quality climate risk disclosure is often much higher in CDP reports, which effectively prods for detailed answers. In its Global 500 Climate Change 2013 report, CDP points to “a seismic shift in corporate awareness of the need to assess physical risk from climate change and to build resilience.”
Yet, the same report highlights a common shortfall among reporters: “Companies tend to focus on tangible risks in areas such as carbon taxes or energy prices, whereas the benefits from climate related opportunities are often less tangible, such as changing consumer behavior. (…) This suggests that businesses may be missing some significant risks and opportunities because valuation methods are unavailable.”

Most risks and opportunities reported to CDP are related to carbon regulations.
Most risks and opportunities reported to CDP are related to carbon regulations. Source: CDP 2013

Five Ways to Improve your Climate Risk Reporting

Accurately identifying risks and opportunities and developing a strategic adaptation plan are crucial to a company’s long term’s profitability. How can you better identify climate risks & opportunities, reduce your vulnerability, and improve your reporting score?
Focus on the Big Ticket Items: for an initial risk screening, you’re better off focusing on your assets and facilities with the highest embedded value. While imperfect, this will help you identify low-hanging fruits and gain support from your management for a more comprehensive analysis.
Be Timely: climate change is not all about floods, drought or hurricanes. When looking at assets with a long life span, you should consider gradual changes in temperature and precipitation, which could drive utility costs up, as well as sea-level rise and the increased likelihood of storm surge.
Think global: an effective analysis will identify and benchmark risks and opportunities across your entire value chain, not just your own operations. Examine your suppliers and your extended supply chain network, your distributors and your customers. The main source of risk could be in your market or in one of the raw materials you depend on.
Act local: your adaptation response needs to be crafted individually for each location. You may need to consider traditional risk management tools, such as insurance, along with non-traditional methods geared specifically to the local circumstances of your facility, supplier or distributor.
Be a Team Player: climate change is not a problem that can be solved alone. A robust adaptation strategy will require meaningful engagement with local stakeholders and partnerships with public agencies.

Get an early start on the 2015 reporting season!

Our new climate risk Forecasting and Adaptation Strategic Tool (FAST) is a rapid and effective way to screen your value chain and reduce vulnerability to climate change risk. Get a customized report, with maps and graphics ready for use in your CDP and DJSI reports. Present compelling visuals and cost estimates to your company’s leadership team and start pro-actively managing your climate risk exposure.

Special offer: pre-order your climate risk analysis with our Forecasting & Adaptation Strategic Tool by December 31st, 2014 and save 40%!

A Fuel Carbon Tax for California?

After a fairly quiet start to the year, the California market saw an increase in activity last week as the first auction of the year coincided with the last days to file bills in the California legislature. One such bill filed last week proposes to remove transportation fuels from the cap-and-trade program and impose instead a tax on gasoline starting in 2015, and was opportunely leaked right when the auction was in process, on Wednesday February 19 midday.

Auctions: All Quiet on the Western Front

Auction participants seemed – thankfully – unfazed by the surprise proposal, if they even heard of it in time, and the auction cleared slightly below secondary market prices, in line with expectations. The current auction for V14 allowances cleared at $11.48 a ton, just 14 cents above the 2014 reserve price of $11.34 a ton, while the advance auction for V17 allowances saw a clearing price of $11.38. All of the 15.5 million V14 and 9.3 million V17 allowances sold out. The auction raised $175 for the benefit of ratepayers and $130for the GHG reduction fund. This confirms our forecast that the state is on its way to raising at least $529 million in fiscal year 2013-2014.

The bid-to-supply ratio was lower than at previous auctions, but the volume offered was quite a bit higher, for a total of 71 participants, also lower than at previous auctions. It is impossible to say if the bill leakage had any impact on the auction – in our view, the slight drop in interest is to be expected in a long market and not reflective of last minute rumors on possible changes to the program design.

Cap-and-Dividend, Here We Go Again…

While the market impact was limited, the fuel tax bill garnered quite a bit of media attention. The bill comes from the office of State Senator pro tempore Darrell Steinberg, a powerful Democrat who represents the Sacramento region and is supportive of California’s climate policy. Steinberg’s main concern is the risk of spikes and wild fluctuations in gas prices due to the carbon market, which he argues would affect disproportionately the low and middle-income families through higher energy costs. According to the Senator, such fluctuations would also give fodder to the fire of climate change skeptics who “[would] use the crisis to unravel AB 32 and weaken our essential climate goals.”

To remedy these concerns, the bill proposes to establish a carbon tax starting at 15 cents a gallon in 2015, rising to 24 cents a gallon in 2020, which is roughly equivalent to carbon prices of $16 a ton in 2015, rising to $25 a ton in 2020. The bill supporters argue that this would provide better price certainty, slightly higher than the reserve price, and without the upside price risk of the market.

In addition, the bill proposes to return most of the carbon tax revenues to poor and middle-income California families through a new state Earned Income Tax Credit, and inject the remaining revenues into a multi-billion dollar 21st century development of California’s mass transit infrastructure. This stands in contrast with the use of the auction revenues, which by law must be entirely spent on emission reduction efforts, and per the Governor’s proposed budget, would see over two thirds of the monies go to clean transportation and sustainable communities investments rather than tax credits.

Market Implications

None of the bill’s ideas are bad per se – a carbon tax is a very respectable way to price carbon, and returning revenues to poor household is certainly an important concern. The only real problem with this bill is that we’re in 2014, over one year into the program and ten months before the start of the second compliance period (CP2) and the inclusion of fuels under the cap. Such a proposal would have been fine to consider in 2008 while the Scoping Plan was studying at length the merits of cap-and-trade vs. carbon tax. Right now, it is disruptive and possibly counterproductive.

Disruptive because reopening Pandora’s Box so late in the game creates uncertainty for market participants and discourages long term investments, and counterproductive because it could potentially cause short term volatility on the market. Indeed, fuel providers are already actively buying allowances to prepare for next year’s compliance obligation. Sending mixed signals less than a year before CP2 creates uncertainty not just for fuel providers at a loss of how to best prepare for compliance, but also indirectly for all the other compliance entities wondering what the implications might be in terms of liquidity and volatility for them.

If fuels were actually excluded from the cap, the market would remain its current size instead of doubling overnight, leaving only power plants and industrial facilities in the program. This would mean a continuation of the market as we know it today, with low liquidity and limited offset demand. Also, a smaller market can be more prone to volatility due to changes in the demand side price drivers – for example, a heat wave would have a comparably larger impact in a market where the power sector drives over half of the demand than it would in a much larger market with more sectors covered.

As it stands, the market mostly shrugged the news, sliding down a few cents on Thursday, possibly on the back the proposed bill, but this could change if some of the bill’s provisions gained traction. Yet an extended discussion on the fate of fuels under the cap could create a sluggish buyer mood and hamper liquidity in an already slow market until the road is clear for fuel distributors to enter unreservedly the market.

A Low Probability, High Consequence Event

The bill in its current form is very unlikely to pass. In California, a new tax needs a 2/3 majority in the Legislature. Democrats have a bare majority, and Governor Brown has said: “now is not the time for new taxes”. He and the Legislature face elections later this year. Furthermore, most environmentalists oppose the bill, and while the fuel trade associations have expressed interest in the bill, they’re not openly leading the charge. All of these mean the bill’s odds are very, very low.

Yet the fact that the President of the Senate is willing to propose changes to the design of the program at this point in time is something worth paying attention to. While a fuel tax is unlikely to go anywhere, a bill requiring the Air Resources Board to impose a tighter price collar or offering an alternate compliance mechanism through a flat fee for fuel providers would not necessarily require a super majority. Neither would a bill to remove fuels from the cap entirely, for example if gas prices endured a sudden or significant increases and legislators faced urgent and widespread calls to act.

The bill also signals the Democrats are intent on seeing their spending priorities better reflected in the investment plan for carbon auction revenues. The Governor’s focus on the high-speed train is not exactly popular in the State Capitol, and many legislators would like to see more revenues directed to poverty reduction, possibly through a climate dividend, and mitigation of general cost of living increases. The amount of money forecasted to be raised from the carbon auctions, over ten billion dollars cumulative through 2020, should and will undoubtedly be the object of a healthy democratic debate in the Legislature this spring.

At this point however, it would be best for the success of the cap-and-trade program if this debate were limited to revenue allocation. One of the best ways to ensure price stability in the carbon market is to provide policy certainty, and questioning core design elements of the program at this point in time may not conducive to the price stability the bill seeks to foster.

Emilie Mazzacurati

Outlook for 2014 California Cap-and-Trade: Politics Take the Center Stage

After a year of incremental regulatory action, 2014 promises to be a year ripe in political developments for California’s cap-and-trade program and climate policy in general. From Sacramento to Washington, DC, we examine key expected developments for the New Year and their potential impact on the California carbon market. You can also download our nifty California Carbon Calendar 2014.

Political Outlook

Complementary policies remain high on the political agenda on both sides on the aisle, and have the most direct potential impact on market balance and prices.

Low Carbon Fuel Standards and Fuels under the Cap

We expect the oil industry will continue its push to delay or amend the Low-Carbon Fuel Standard (LCFS). In court, the Rocky Mountain Farmers Union v. Goldstene case, which caused a temporary stay of the LCFS program earlier this year, has been remanded to District Court after the Court of Appeal judged the program did not discriminate. The revised Court decision is expected in 2014. Any delay or significant change to the program’s compliance schedule would lead to higher emissions in California, and potentially drive prices up on the market.

We also expect the oil industry to continue arguing in the Legislature for free allocation and/or a delay in the inclusion of the fuels in the program. The latter seems less likely, as it would appear as a significant setback for California climate policy, and therefore is unlikely to garner enough support either in the legislative or in the executive branch. Allocation to fuels, on the other hand, is sure to be high on the agenda, and if left to ARB will likely involve fewer free allowances than if legislators have a say.

Renewable Portfolio Standard, Clean Energy and Energy Efficiency Investments

As utilities are well on track to meeting their 33 percent renewable procurement target for 2020, the Legislature started in 2013 a discussion on going above and beyond the 2020 target and setting a more ambitious target – 51 percent – for 2030. We expect similar legislation to resurface in 2014, and the primary holdup against passage is likely to be technical rather than political, as utilities are concerned about ensuring grid stability and reliability with such a high level of renewable integration. A more ambitious RPS would lower emissions in California in 2020 and beyond, and would contribute to keeping prices low in the carbon market.

Revenues from Prop 39 and its implementing legislation have started flowing, with $106 million going to California public schools in 2013. The revenue stream is expected to increase, with up to $500 million going to energy efficiency and clean energy investments yearly over the next five years.

Prop 39 revenues come in addition to the auction proceeds, which must be invested in emission reductions as well. The fate of the fund is in the Governor’s hands, but assuming funds will be directed towards their intended purpose, both investments will contribute to curbing emissions and prices. (Read our recent analysis on budget politics.)


The conversation on offsets was largely dominated by SB 605 in 2013, a bill that proposed to restrict offsets to projects in California. We expect similar legislation to be introduced again in 2014, which would carry a risk of driving prices high by creating sudden scarcity in offset supply. Criticisms and questioning of protocols for mine methane and rice cultivation also meant neither protocol got approved in 2013.

We expect 2014 will see a continuation of ARB’s work on new protocols, with mine methane most likely to make it in the regulatory amendment package in the spring. We don’t anticipate any major breakthrough on REDD, in spite of the excellent guidelines laid out by the REDD working group in July 2013. Offsets in general and REDD in particular remain a contentious topic for a number of environmental organizations, and we expect continued push back from these organizations, and the same commitment to extreme caution from ARB.

Post-2020 Policies and Emission Reduction Target

The single most important development for the short and long-term health of the carbon market is the setting of a clear target and policy framework post-2020. ARB has clearly indicated in the October 2013 draft Scoping Plan Update that cap-and-trade would continue past 2020, but stopped short of setting a target for 2030 and beyond. We expect 2014 will see the 2030 target rise on the political agenda – Sen. Fran Pavley, Chair of the CA Senate Select Committee on Climate Change & AB32 Implementation, indicated early December that she would consider sponsoring legislation to establish long term reduction targets for the state.

Climate policy could well become a key issue in the 2014 gubernatorial campaign. Gov. Jerry Brown is said to prepare an announcement as part of his platform for his (likely) re-election campaign. Climate change is high on the agenda for California voters, with 65 percent supporting AB32 goals and policies and saying the government should do more. Gov. Brown sports high approval ratings, 49 percent of likely voters as of December 2013, down from 54 percent in July, and has made climate and clean energy a priority for his administration. Yet his re-election could be challenged, especially in the context of California’s new Top 2 primary system. The 2014 gubernatorial election could play a significant role in bolstering or reshaping California climate policy, which could impact the carbon market as well.

Federal & Global Climate Policy

2014 is also an election year at the federal level, but unless Republicans capture the majority in the Senate, we don’t expect a significant change of course in either direction, as the gridlock in Congress will continue to leave the initiative to the President. The Environmental Policy Agency (EPA) is chugging along on its GHG regulations under the Clean Air Act, which is generally supportive of and compatible with existing state programs (read our analysis on this topic)

It is probably fair to say that the global climate community is more interested in California than the other way round, but generally still worth mentioning that the expectations for the 2014 round of global negotiations are nil, as all eyes are on the December 2015 Paris Conference for a possible international agreement of a sort towards global carbon reductions.

Carbon Market Outlook

Regulatory Changes

Make no mistake – there are still quite a few loose ends to tie up on the regulatory front that will keep market regulators and emitters alike busy through the year.

  • As of January 1st, the linkage with Quebec will become effective, meaning that allowances and offsets issued by the Quebec government will gain full currency in the California market. The first joint auction should take place in May 2014 (not February), according to the Quebec government.
  • ARB staff needs to finalize the regulatory amendments discussed at length through 2013, which contain a variety of provisions addressing industry allocation and product benchmarking, market oversight and information disclosure, conflict of interest rules, cost containment, coal mine methane protocol, and more. Final amendments are expected in the spring.
  • 2014 will see the first partial annual compliance on November 1st, 2014. For the first time, emitters will have to surrender 30 percent of their 2013 emissions to ARB for permanent retirement. This should boost volumes in the secondary market ahead of the surrender deadline, and will be a good opportunity to check whether ARB has ironed all the kinks in terms of retirement order.
  • Who says compliance says emissions true up – ARB will be releasing historical verified emissions for 2013 in probably in the fall 2014, which will likely confirm that the market has indeed started with an excess of allowances compared to emissions.

None of these is expected to have a noticeable price impact except maybe for the CMM offset protocol, but their successful completion is integral to the proper functioning of the market and must be checked off the list.

Market Trends

We expect 2014 will see higher traded volume on the secondary market than in 2013, especially ahead of the partial compliance deadline in the fall 2014. As the second compliance period and its substantially larger cap draw near, we also anticipate oil companies will start buying larger volumes at auctions and over-the-counter. While fundamentals do not point towards a price increase, the sheer size of potential demand from fuel distributors compared to current size of the market could drive up prices a bit towards the end of the year.

We expect the primary market to continue to perform well, and all current and future allowances offered for sale at auctions to be purchased, mainly by compliance entities – in line with auction results so far.

For offsets, as ARB continues to issue compliance-grade offsets, and the market explores the many variants offered by the IETA-sponsored California Emission Trading Master Agreement (CETMA), we expect to see a little more activity in the secondary offset market. But we don’t anticipate a large increase in liquidity as offset contracts will remain, by design, not fungible.


2014 will bring plenty of opportunities for political changes, and derived policy changes, although in California the popular support for climate policy is such that change is likely to mean strengthening and deepening of current policies.

We also anticipate 2014 will see growing emphasis on the issue of climate adaptation. California is in the process of updating its state climate adaptation plan, and since the world is generally failing to address GHG emissions and global climate change, we anticipate climate adaptation will increasingly get people’s attention as the impacts of the changing climate are being felt in California and beyond.

Pin it to your desk! Download Four Twenty Seven’s California Carbon Calendar 2014

Quebec’s First Carbon Auction: A Gentle Warm-Up

Quebec’s first auction took place on Tuesday, December 3rd and results were published on Friday, December 6th. The auction regulations are largely similar to California’s, and this was the sole auction where only Quebec allowances were offered for sale, to the benefit of Canadian-based entities only. Starting in 2014, California and Quebec will hold joint auctions where allowances from both jurisdictions will be offered for sale.

Auction results

Quebec’s December auction saw 1 Mt of V13  allowances sold, 34 percent of the 2.97 Mt offered for sale, at the reserve price of CAN $10.75 (US $10.10). The take up for V16 allowances was even lower, with 1.7 Mt sold, only 27 percent of the total 6.32 Mt offered for sale. The low interest in Quebec V13 allowances came as a surprise as many participants saw a potential upside price risk due to the uncertainty surrounding any first auction – which didn’t materialize. We discuss below potential explanations for the low participation.

The low take up rate of V16 allowances, on the other hand, was to be expected, since the volume offered was large compared to current year emissions. V16 allowances offered for sale amounted to over 25% of covered emissions in 2013, and therefore were unlikely to be absorbed by current participants.

The Quebec market has been ramping up slowly overall, with over-the-counter transactions few and far between. This is to be expected with a small market, only a few large players and a generous free allocation. Linking to the California market is therefore an important step for Quebec, which will open access to a larger, more liquid secondary market and more anonymity in the primary and secondary market.

Industrial emitters dominate

In Quebec, 95 percent of the electricity is generated from hydropower, so that the power sector has virtually no emissions, leaving almost exclusively industrial emitters in the first compliance period. The industrial sector emitted a total of 23.2 Mt in 2011, with aluminum companies making up a quarter of the sector’s emissions, followed by pulp & paper, refining and cement according to data provided by our partners in Quebec, EcoRessources (see Figure 1.)

QC Industrial Sectors Emissions
Figure 1. Industrial Emissions in Quebec
Data: EcoRessources

The program covers 91 emitters in total, but many of these facilities are very small emitters, leaving only a dozen covered emitters likely to participate actively in the traded market.  Just like California, the largest emitting sector is the transportation sector (35 Mt) and natural gas (7 Mt), and the bulk of the emission reduction effort will really start in the second compliance period, in 2015.

While Quebec has a more aggressive emission reduction target than California, of 20 percent below 1990 levels by 2020, EcoRessources forecasts the first compliance period will also be overallocated.  The Quebec allocation formula is somewhat more generous than California’s, and it is quite possible that some industrial emitters have more permits in hand already than they need to cover their 2013 emissions.

Some surprising no-show

Nineteen bidders participated in the auction – Figure 2 provides a breakdown of the number of potential bidders by sector. The vast majority of bidders came from the industrial sector, mostly refineries, metals (steel) and cement. Surprisingly, aluminum companies did not participate – they constitute the largest emitting sector in QC, and their absence likely contributed to the low take-up rate of allowances. Even in the cement sector, only two of the largest four cement plants joined the auction. All three large refineries participated.

Dec 2013 QC Auction participants
Figure 2. Quebec auction participants.
Data: Ministère de l’Environnement, du Developpement Durable, de la Faune et des Parcs du Québec

It is unclear whether aluminum facilities did not join the auction because they didn’t need the allowances or because they preferred to wait for the California auction. One could speculate that large emitters would rather wait for the joint auction, where their demand is less likely to drive prices up because it will be lumped together with that of many other large emitters from  California.

Another absence worth noting is that of fuel distributors – none of the large gasoline and natural gas distributors participated in the auction, indicating that these entities have not started banking yet for the second compliance period. And finally, no financial player joined the auction, not even the Canadian bank that has bid in California auctions in the past.

The absence of many large emitters, fuel distributors and financial players altogether explains the low take up rate of V13 and V16 allowances.

A Question of Timing

It’s also worth noting that Quebec does not have a partial annual compliance requirement. California requires its emitters to surrender 30 percent of the previous year’s emissions on an annual basis, and emitters are left to make up the difference at the end of the compliance period. In the absence of such an annual obligation, Quebec emitters are not required to surrender any allowance until November 2015, which probably also explains the lack of interest in this week’s auction. We expect to see more interest from Quebec emitters in the joint auctions starting next year.

What to expect from the joint auctions?

The next auction will likely take place in May 2014. The February auction should be simultaneous but not on the same platform – see Table 1. for the full 2014 auction schedule.

2014 auction schedule
Table 1. Auction Schedule for 2014
Source: California Air Resources Board.
Note that “Reserve Sale Events” date refer to the sale of Price Containment Reserve Allowances, which will be offered for sale at a price ranging from US $42-$53, and therefore are not expected to see any buyers.

Auctions going forward will see CA and QC allowances offered for sale jointly, on the same auction platform. The reserve price will be US$11.34 (CAN $12.09) in 2014 for both jurisdictions. (If Quebec was going it alone, the 2014 reserve would be around CAN $11.38 (US $10.67) for QC allowances, but the regulation stipulates that the common reserve price will be set on the highest of the two reserve price based on the exchange rate at that time, which means the CA reserve price will set the floor for both jurisdictions). Allowances from either jurisdictions will be fully fungible starting January 1st, 2014 and can be indiscriminately traded, banked, and retired for compliance in either jurisdiction.

Outlook for the Fifth California Carbon Auction

We expect the 5th auction for California carbon allowances will see fewer bidders, a lower ratio of bids to supply, and a lower clearing price than previous auctions. These are normal developments for the last auction of the year, and in line with recent price trends on the secondary market. We expect the long term prospective will outweigh current concerns regarding market over-allocation, and we anticipate that the reserve price growth rate will prevent the auction from being undersubscribed.

Auction: Price and Volume Outlook

The November 19 auction will see 16,614,526 Vintage 2013 (V13) allowances offered for sale, a volume noticeably higher (12-22 percent) than previous auctions. This additional volume comes in part (0.3 Mt) from small adjustments to ARB inventory data, and for the rest, likely from consigned allowances by publicly-owned utilities (POU).
We expect the V13 allowances will sell in the range of $10.71-10.85 per ton, at or just above the reserve price of $10.71. There is a small risk that V13 allowances will be undersubscribed, due to a widely shared view amongst market participant that the California cap-and-trade program will be long in the first compliance period and beyond. Nevertheless, we think it is unlikely that V13 allowances will remain unsold: allowances bought at $10.71 in November 2013 can be turned around and sold in early 2014 for close to $11.45, the 2014 floor price. This 5 percent interest rate with near-zero risk acts as an incentive for compliance entities and financial investors to bank extra allowances in the early years. Five percent return over a few months’ time is nothing to sneeze at in today’s financial markets, so we expect enough bidders will see it as a worthy investment to prevent the auction from being undersubscribed.
The ‘Advance Auction’ will see 9,560,000 Vintage 2016 (V16) allowances offered for sale, at the same reserve price. Similarly, we anticipate that the general confidence that the program is here to stay will lead the ‘advance auction’ of V16 allowances to be fully subscribed and clear in the range of $11.00-$11.25. Indeed, all V16 allowances in the August 2013 auction sold at a clearing price of $11.10, and if anything confidence in the long term viability of the market has been bolstered since.

The Short Term Prospective: the Annual Compliance Cycle

The California cap-and-trade program is structured around two- or three-year compliance periods: this structure is meant to provide flexibility for compliance entities that have large year-on-year variations – such as the power sector – and avoid price spikes.
However, most entities on the market still look at their emissions on an annual basis, and purchase allowances accordingly. They may take advantage of the flexibility afforded by the two-year compliance period ex-post, but not necessarily by on an annual basis. At this point, most compliance entities have likely already purchased enough allowances to cover their 2013 allowances, except for the largest ones – the IOUs and large oil companies, which need to purchase as much as possible at each auction to meet their compliance needs. The majority of firms – and so many of the potential bidders – will likely wait until 2014 to start purchasing their 2014 allowances rather than banking allowances at the last 2013 auction, even at bargain prices. They simply may not have the budget or strategy to start purchasing their 2014 allowances.
The same dynamic could be observed in the Regional Greenhouse Gas Initiative in the first compliance period (2009-2011), as shown in Figure 1.

RGGI Participants
Data source: RGGI

In each of the first three compliance years, participation in the auction was lower in the last two auctions (Sept and Dec) than in the first half of the year. In 2010 and 2011, participation was also lower in December than in September – the only exception was December 2009, where the RGGI auction attracted unusual interest from financial investors in the context of the debate over the Federal cap-and-trade bill ahead of the Copenhagen global climate negotiations.
The trend in California looks very similar so far (see Figure 2), with the number of participants decreasing from 91 to 79 and the subscription rate dropping from 2.47 to 1.6 between February and August.

California Participants Nov 2013
Data source: ARB for Nov 2012 – August 2013, projections for illustrative purposes for November 2013 by Four Twenty Seven.

The main difference with RGGI is that we don’t expect the overall number of auction participants in California to decline so dramatically over the years, but rather to remain overall stable as participants will have to come back to the auctions in 2014 and 2015 to procure the allowances they need. California market participants will be unable to build a bank as large as RGGI emitters because of holding limits and because California is nowhere near as over-supplied as RGGI was in 2010 and 2011.

Is California Really Over-Allocated, and Does It Matter?

In September 2013, Thomson Reuters Point Carbon published a report forecasting that California emissions will remain lower than the cap through 2018 due to the rapid decline of emissions observed since 2011 and anticipated through the end of the decade. 2012 GHG emissions data published by ARB on November 8, 2013 confirm the downward trend in most sectors except the power sector, where emissions increased slightly due to a dry year (leading to lower levels of hydro generation) and the shutdown of the SONGS nuclear plant. If emission reductions continue to outpace the cap decline, this would be good news for the program, since it would mean reductions mandated by complementary policies – the Renewable Portfolio Standard, Low Carbon Fuel Standard, etc. – are bringing about enough emission reductions, and prices are likely to stay low over the coming years. If this proved true, prices would likely stay at the price floor (the auction reserve price), rising moderately to reach about $17.50 in 2020.
Yet such over-allocation is not a done deal by any means. Tight offset supply, additional demand from California’s trading partner Quebec, and an economic revival could put upward pressure on prices through a combination of rising demand and rigid supply. The lack of readily available low-cost emission reductions means a short market could see rising prices in the third compliance period, albeit most likely kept in check by the price containment reserve.
And even if California were indeed over-allocated through 2020, the annual supply and demand balance would matter less and less as 2020 approaches. In a carbon market, prices are largely driven by policy expectations. Even if there are more allowances than emissions in 2018, prices could still rise above the reserve price if the market anticipates a tight cap after 2020 will bring scarcity. Market participants could well start buying allowances to bank for post-2020 period.

Long Term Prospects for the California Carbon Market

Two noteworthy developments have reinforced the long-term viability of the program in the past couple of months.
On November 14, the California Superior Court upheld the cap-and-trade auction provisions, which had been challenged by the California Chamber of Commerce. This decision once again sends the signal that the program will be resilient to legal challenges, and that it is unlikely it will be brought down by a lawsuit.
More importantly, the Discussion Draft for the Scoping Plan Update, released early October, reiterated ARB’s intent to continue the program past 2020, and proposed a state-wide GHG emission target for 2030 in the range of 30-55 percent below 1990 (and 2020) levels. While the final target will be a political decision from the Governor and the Legislature, the will to continue aggressive carbon reductions in the state is clearly there, and cap-and-trade will remain part of the arsenal. We expect California will set a target of at least 40 percent below 1990 emission levels for 2030, halfway to the 2050 target of 80 percent below 1990 levels. As shown in Figure 3., a 40 percent target would be a fairly linear continuation of the current cap, while a 55 percent target would see an acceleration of reductions after 2020.

CA Cap Scenarios Nov 2013
Source: Four Twenty Seven projections

Because California has done so well at reducing its emissions so far, and political support for climate policy remains at an all-time high, we wouldn’t be surprised for the Governor to embrace the more ambitious target as part of his 2014 re-election campaign. Such a bold commitment would provide support for carbon prices before 2020.


The upcoming auction will likely see lower clearing prices and less participation than previous auctions, but this is a normal development for an end-of-the-year auction. The long term perspective for the program remains strong, and the reserve price will sustain prices until California decision-makers finalize the target for 2030.

Smooth Sailing for California Cap-and-Trade

The launch of the California carbon market was watched with much scrutiny worldwide and in the United States. California is the 12th largest economy in the world, and its cap-and-trade program, with a cap over 400 million metric tonnes (Mt) in 2015, is the second largest compliance program in the world. California leaders are committed to setting an example for the nation and for the world of a tightly-run, ambitious emission trading program that would blaze the trail for other states and countries to follow. Given the state of disarray of the EU ETS and the Clean Development Mechanism (CDM), both vastly oversupplied, and the slow progress of climate policy at a U.S Federal level, the bar was high for California’s new program. Almost a year after the launch, how is California doing?

Healthy allowances trading

One of the biggest worries for the California was the potential lack of liquidity on the secondary market. With less than forty-five large emitters (over 500,000 t of annual emissions) in the first compliance period, the pool of potential market participants was fairly narrow, especially since a number of these emitters receive at least part of their allocation for free. Yet trading has proven healthy, with 377,480 t average daily volume year-to-date (YTD) for all vintages together, according data from the InterContinental Exchange (ICE) and Evolution Markets. (…)

Download and read the full article (PDF): 05 Smooth Sailing for California Cap-and-Trade

About this article:

This article was published as part of the International Emissions Trading Association (IETA) Greenhouse Gas Market 2013 report. The publication brings together carbon market professionals, policymakers, academics and NGOs to provide in-depth analysis and perspective on the main issues affecting carbon policy worldwide. IETA is global in its outreach and the publication features latest developments in current and emerging carbon markets, as well as taking a step back to consider the wider implications of climate policy design and implementation.

The Full Report of IETA Greenhouse Gas Market 2013 features the following articles:

The Markets: Existing Policies Around the World

1. EU ETS: The Cornerstone of Future EU Energy and Climate Policy? – Sarah Deblock, IETA and Ingo Ramming, Commerzbank
2. EU ETS Pricing and Trading Trends: Improving Outlook– Trevor Sikorski, Energy Aspects
3. Smooth Sailing for California Cap-and-Trade– Emilie Mazzacurati, Four Twenty Seven
4. Australia Carbon Policy Update – Martijn Wilder, Baker and McKenzie
5. Can the Obama Administration meet its Copenhagen Goals? – Tom Lawler, IETA and Bruce Braine, American Electric Power (AEP)
6. The Regional Greenhouse Gas Initiative: Building on Success – Colin O’Mara, Secretary of the Delaware Department of Natural Resources and Environmental Control
7. Canada’s Tradable GHG Intensity Standard for Oil and Gas: The implications of leading proposals – Dave Sawyer, EnviroEconomics, and Dale Beugin, IISD

The Future: Carbon Markets On The Rise

8. The Road to 2020: What Will We Get? – Pedro Martins Barata, Get2C
9. China’s Carbon Market. Where Next? – Wu Qian, British Embassy, Beijing
10. An Overview of Emissions Trading in Korea – Dalwon Kim, European Commission DG Climate Action
11. Kazakhstan’s developing ETS – an example of emerging carbon pricing schemes in the East – Friso De Jong, Janina Ketterer, and Jan Willem Van de Ven, European Bank for Reconstruction and Development (EBRD)
12. Market and Non-Market Approaches: A Hybrid Approach in Taiwan – Hui-Chen Chien, PhD, Taiwan Environmental Protection Administration, Wen-Chen Hu, Industrial Technology Research Institute (ITRI), Robert Shih, YC Consultants, Ltd.
13. Using Offsets Within the South African Carbon Tax Regime – Patrick Curran and Alex McNamara, Camco Global
14. Toward a cap on the carbon emissions of international civil aviation: One Step Forward in 2013 – Annie Petsonk, Environmental Defense Fund (EDF)

The Design: Examining What Makes Climate Policy Tick

15. Prospects for the World’s Offsetting Market – Can the Patient be Cured? Guy Turner, Bloomberg New Energy Finance
16. Fragmented Markets with Fragmented MRV Practices: Does it Matter? – Madlen King, Lloyd’s Register Quality Assurance (LRQA)
17. What’s Covered? Trends in Coverage of Different Sectors and Gases – Edwin Aalders, Det Norske Veritas (DNV KEMA)
18. The Cost of Carbon Pricing: Competitiveness Implications for the Mining and Metals Industry – John Drexhage, International Council on Mining and Metals (ICMM)
19. Case Study: California’s Response to the Lessons Learned from the EU ETS – Melanie Shanker and Chris Staples, Linklaters

The Bridges: Aligning Markets Within a Fragmented Architecture

20. Carbon Pricing, the FVA and the NMM: Charting a Course to a New UNFCCC Agreement – David Hone, Royal Dutch Shell PLC
21. The Linking Rainbow: Evaluating Different Approaches to Joining Carbon Markets – Anthony Mansell, IETA and Clayton Munnings, Resources for the Future (RFF)
22. Japan’s Joint Crediting Mechanism: A Bottom-Up CDM? – Takashi Hongo, Mitsui Global Strategic Studies Institute
23. Lessons from the PMR’s First Years and Looking Forward – World Bank PMR Secretariat
24. The B-PMR: One Year On – Mark Proegler (BP) and Karl Upston-Hooper (Greenstream)
25. Leveraging the Potential of the Voluntary Carbon Market as a Credible Tool for Mitigating Climate Change – Sophy Greenhalgh, IETA and International Carbon Reduction Offset Alliance (ICROA)
26. When Trade and Carbon Collide: WTO and Climate Policy Realities – Elisabeth DeMarco, Norton Rose Fulbright

The Tools: Financing Low Carbon Development

27. Financing the Transformation: The Importance of the Private Sector – Paul Bodnar, United States Department of State
28. Adding to the REDD Finance Toolbox – Charlie Parker, Climate Focus
29. NAMAs: Aligning development imperatives with private sector interests – Frédéric Gagnon-Lebrun and Jorge Barrigh
30. The Green Climate Fund: Paradigm Shift or Incremental Improvement? – Gwen Andrews, Alstom
31. Analysing the Potential for a CDM Capacity Fund – Joan MacNaughton, IETA Fellow and Vice Chair, UN High level Panel on the Policy Dialogue on the CDM
32. Towards Supranational Climate Tax or Levy: The Case of the Adaptation Fund – Laura Dzeltzyte
33. Private Sector Finance for Adaptation – Gray Taylor, Bennett Jones LLP


Picture credits: Robert Bissett, Smooth Sailing

Impact of SB 605 on the California Carbon Market

SB 605 as revised July 3rd, 2013 would restrict offset projects in the AB 32 cap-and-trade regulation to projects based in California. Such a restriction would cut available offset supply by 70 to 90 percent compared to current projections, worsening the expected shortage of credits available for use in the California carbon market, and escalating credit and allowance prices.

While offset protocols for U.S. projects approved and under consideration are forecasted to meet between 30 and 70 percent of total demand, supply from California-based projects would likely meet no more than 6 to 16 percent of cumulative demand for credits through 2020. The offset shortage makes it very likely (over 60 percent chance) that prices would reach the highest tier of the APCR in 2020, $82 a ton.

Yet higher prices in the carbon market are unlikely to incentivize a significant number of new offset projects in California due to institutional, regulatory and technical hurdles.

Download the full report Market Impact of SB 605.