Think it’s all over

Published at 14:27 27 Jun 2018 by . Last edited 15:12 5 Nov 2018.

June has seen a break in what had previously been a nearly relentless EUA bull run that has seen EUA prices more than double since January. The Dec-18 contract hit a close as high as 16.3 €/t on 29 May, but has softened in June to as low as 14.24 €/t on 19 June, before heading back to over 15 €/t near month end.

For the last few weeks, we had been arguing that the ICE Jun-18 options expiry on 20 June was a downward pricing event for the market. At peak, on 7 June, 21 Mt of call options were in the money, but the underlying EUA market dropped in price by expiry, leaving only 17 Mt of calls in the money and around 10 Mt of puts in the money. So, the market only really had to deal with a net 7 Mt of EUAs potentially being quickly dumped into the spot market.

With the options market now receding in its immediate importance to EUAs, the question is whether the market now tries to recover any of the lost value, and the answer largely depends on whether the ‘buy and hold’ market participants come back and start driving the market up. Our feeling is that this will happen, as expectations between current and future prices are still sufficiently wide to stimulate a return to the pre-options expiry uptrend.

The EU reached political agreement on revisions to the Renewable Energy Directive (RED) on 14 June and on the Energy Efficiency Directive (EED) on 19 June. For both directives, which have been in trilogue talks for most of 2018, the final agreement saw the level of environmental ambition increased—the renewable target was raised to 32% of primary energy by 2030 and the energy efficiency target was hiked to a 32.5% increase vs a business-as-usual trajectory by 2030. Both revised targets were compromises—higher than European Council’s adjusted position (30% for both targets) and lower than the European Parliament’s adjusted position (35% for both targets).

Under the RED, new renewable generation will continue to grow and thermal power generation will continue to ease, supporting a reduction of around 95 Mtpa in emissions from the power sector by 2030. The impact of the additional two percentage points (ppts) on the Council’s 30% target would result in an extra 50–70 TWh/y of renewable generation by 2030 and, over the course of the phase, would add some 300-350 TWh of renewable generation, albeit with most of that post-2025. Such an analysis may overstate the actual impact of that upward revision to policy, as the RED targets are for all primary energy and power, regardless of the target, will be expected to contribute a higher percentage than the headline target. In addition, renewable power capacity additions in the EU have averaged 21 GW/y in the 2014-2017 period, and that level of annual capacity additions would mean that the percentage share of new renewable energy in the EU power sector by 2030 would actually be closer to that 40-45% of generation, up from 20% now.

The impact of the EED on power sector energy demand and emissions as a whole is likely to be less sensitive to the headline target than it is to the Article 7 obligation on suppliers to reduce energy supplies each year, which did not change with the headline target.

With the Jun-18 option expiry event behind the market, EUA prices will continue their bull run for most of 2018, despite the big potential selling event in mid-December when Dec-18 options expire. For 2018, we are continuing to forecast a 15.2 €/t average with a Q4 18 average of 18.5 €/t, both largely unchanged from last month’s forecasts.

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