London, 7 May 2011

European carbon prices have proved resilient against falling oil prices this week, and should continue to do so thanks to strong fundamentals, market observers said on Friday. Front-year EU allowance (EUA) prices have slipped 3.1 per cent from a one-month high of €17.45 on Monday, and were valued at €16.91 on Friday.

But while EUAs are down 1.3 per cent on last Friday's levels, oil has crashed 13-per cent over the same period, reinforcing a divorce between two commodities that were once closely linked.

Brent crude front month futures plummeted more than 10 per cent to under $110/ bbl on Thursday, as poorer-than-expected US economic data sparked a sell-off that was exacerbated by the unwinding of speculative positions and automatic sell orders.

“There has been a ‘bubble burst’ in the oil market ... (and) as the speculative mass is rather small in the carbon market relative to oil, the move in the carbon has been far more muted,” said Anne Katrin Brevik, a senior analyst at Thomson Reuters Point Carbon in Oslo.

“The two commodities are not driven by the same fundamentals ... They quite often move in the same direction, as if carbon is taking direction from crude oil. However, when comparing closing prices, the correlation may be poor.”

Brevik said the downturn in EUAs was more in line with the fall in gas and power prices, which have absorbed negative sentiment from oil prices this week.

Others agreed that a lack of speculators in the carbon market, compared to oil, helped prevent EUA prices from falling as precipitously this week.

“For oil, mainly investors are running the show. For carbon, they are simply not present,” said Societe Generale carbon research head Emmanuel Fages, writing in the Thomson Reuters Global Carbon Forum.

“The relationship (between oil and carbon prices) still exists, but is often not instantaneous and happens indirectly through gas prices.”

Day-ahead UK gas is down 2.3 per cent this week, while the front-month contract has dropped by 6.3 per cent.

Fages said he expects EUA prices to continue to hover around their new “long-term average” of €17, but warned that if gas prices fall further due to seasonal fundamentals, then carbon could ease slightly.

Renewed relationship

Market participants said the current European carbon price was being driven by demand and supply of allowances, and that a return to a positive correlative relationship with oil was somewhat unlikely.

“The strong correlation (between carbon and oil prices) is definitely not there anymore, and most likely will not come back,” said one trader at a major German utility, adding the outlook for EUAs remained positive.

EU carbon prices have held onto most of the gains they made in March, when they rose from around €15.75 to current levels after Germany said it would reassess its nuclear energy policy.

Following Japan’s atomic energy crisis, the EU’s biggest emitter suspended a law that would extend the life of some of its 17 nuclear plants, a move that could boost the country’s carbon emissions as Germany strives to replace the gap in its low-carbon energy supply with fossil fuel-based power.

“The scenario is still very bullish for carbon if you look at its fundamentals, which include the (German nuclear) moratorium and the post-2012 hedging pattern of utilities,” the trader added.

Ends --

By Michael Szabo, Point Carbon