Hog wild

2019 is here, and so is the start of the much-anticipated MSR, which will take just under 400 Mt out of the auction pots. The 2018 super bull run over January–September was all in anticipation of the tighter market fundamentals that will persist over the 2019–2021 period and the impact the MSR will have on running down the market-held surplus.

Still, 2019 has started as last year ended, with the upward trend muted but daily volatility still high. While the EUA market has shifted to a higher trading range (21–25 €/t) than characterised most of Q4 18 (17-22 €/t), it has yet to establish a strong upward trend. Some of the reluctance to surge like last year can be put down to a number of less bullish developments.

These developments include Poland’s decision to sell 55.8 Mt of additional EUAs in its auctions in 2019—EUAs that have not been allocated to its power sector under the power sector derogation rules. This figure is likely to be repeated in 2020 and could even be higher. Norway’s decision to auction 46.8m EUAs in 2019, which is its auction quota from 2013–2018, adds further supply to the 2019 balance. In fact, the Norwegian government will have around another 15.6 Mt to be auctioned in 2020. The Norwegian auctions have not yet been scheduled for 2019, but our current expectations are an April start.

German auctions are now scheduled to restart from 1 February, with unsold volumes from 2018 adding 21.8 Mt to the 2019 auction supply. Volumes are to be carried over from November and December 2018, as they were not auctioned then due to a gap in getting regulatory approval to reappoint European Energy Exchange (EEX) as the German auction platform.

The other headline grabber has been Brexit, with the fate of UK installations no clearer now than on the day Article 50 was triggered. All that is clear is that the Brexit process is still a mess and the UK has no consensus on what it wants, either at the political or the popular level. Brexit will play out over the coming months, and as long as the option of a no-deal Brexit is on the table, the EU ETS will have a potential bearish episode hanging over it. With so much risk around, attracting sufficient speculative capital to move EUA prices up is unlikely.

The German coal commission’s final report is due by 1 February. The report, delayed from December 2018, is to outline the speed and manner in which the country’s coal-producing regions and associated power generation will be phased out. With both the suspension of lignite mining in the Hambach Forest and the Industrial Emissions Directive’s BREF providing further obstacles to continued lignite mining and its associated power generation, we think 6-7 GW of older lignite capacity is at risk of being closed or forced into a peak hours derogation from 2021, which will ease supply and demand balances at that time.

Finally, if 2018 taught us anything, it was that the gas market will do its own thing to balance. With 2019 promising that the global gas market will finally tip towards looseness from tightness, the EU continues to receive incremental LNG as we expected it would. This means the gas market will look to get more gas into power, regardless of what the carbon price does. In other words, we think gas prices will ease enough that a significant volume of coal-to-gas switching is realised, regardless of the carbon price. Despite all of this, we are still bullish EUA prices in 2019 because the impact of the MSR should be enough to further tighten balances.