Written by Nick Hyslop
As the UN publishes more climate reports and the global frustration with world leaders in facing the threat of climate change increases, green activists are looking for new and more effective methods to curb emissions both through policy and markets. In 2021, the small hedge fund Engine No. 1, with the support of BlackRock and Vanguard among other large funds, won three positions on ExxonMobil’s board of directors. These positions were meant to curb emissions from within the fourth largest oil company in the world, however the effectiveness of this small board shift has not proven to be successful in the past year (Sharfman, 2022). In addition to “green investing,” a form of currency or certificate has been established to reward pollution mitigation and punish the world’s worst polluters. This currency is called the carbon credit. Each credit allows its holder to emit an amount of CO2 and can be traded between governments and companies. If this carbon market naturally corrects toward lower carbon emissions, is this a feasible method of curbing emissions? What should activist investors look for or be wary of when searching for a carbon credit investment? Perhaps most of all, how “green” is each carbon credit?
The carbon credit system was established under the Kyoto Protocol in 1997 when the United Nations Framework Convention on Climate Change (UNFCCC) met to discuss market-based strategies in combating climate change. One carbon credit is equal to one ton of carbon dioxide gas (or in some cases another greenhouse gas such as methane). This credit may be created by some form of removal unit such as reforestation or the prevention of logging and environmental degradation, or a certified emission reduction (CER) credit where a more sustainable mode of power or waste disposal is built (solar panels, non-toxic raw materials). These practices are then vetted by a regulatory agency before a carbon credit is created and brought to market (United Nations, 2000). In this way, cleaner, more environmentally-friendly companies can sell their unused credits to more environmentally-harmful companies. If those companies can’t buy up enough carbon credits, they can then be fined for over pollution by the government. Put simply, carbon-efficient companies profit and carbon-emitting companies are punished.
While there is currently no global carbon credits market, the European Union’s Emissions Trading Scheme (ETS) has provided a standard for how to format these relatively new markets. Although carbon credits spent much of the 2010’s priced at below $20/ton CO2, in the past two years they have risen to a market price of $87/ton CO2. This increase in price has partially been due to the EU’s strengthening of regulations on carbon emissions. Additionally, the EU carbon market has weathered the recent shocks of COVID-19, Russia’s invasion of Ukraine, and attacks by politicians urging a drop in ETS prices because of recent highs in energy bills (Toplensky, 2022). This stability of the carbon market in the face of wider market turmoil and political intervention has provided hope for environmental activists.
While a majority of carbon credits are being traded by major companies or governments with the goal of becoming net-zero, new investment portfolios for individual traders have been established as a commodity – the carbon commodity. Within the last two years, several exchange-traded funds (ETF’s) have been created following the European and California carbon allowances market. While carbon ETFs may prove to be a meaningful investment in the years to come, they are still neophytes in carbon credit investing when compared to other established exchanges (Chen, 2022). Xpansiv CBL is a trading platform based in New York that deals in the market of environmentally sustainable products; these products include carbon offsets, Renewable Energy Certificate (REC) contracts, and Nature-based Global Emission Offsets (N-GEO’s). Due to more experience in the carbon market, established trading platforms such as Xpansiv are able to maintain more stability when it comes to a carbon credit product – the products are more standardized. This means that certain standards in guaranteeing the quality of the project within the carbon credit are met (for example, forest restoration is actually ongoing or a new solar panel is truly more efficient); this guarantee is especially important when much of the carbon credit market is met with accusations of greenwashing and PR stunts (Favasuli & Sebastian, 2021).
Whether or not these accusations have any merit is the true question of the carbon market, and much of it is dependent upon the underlying projects within the carbon offset packages. When looking at carbon offset products, what standards must these projects meet? The first requirement of a carbon credit is additionality – the project cannot be already ongoing before the offset is made – if a solar panel field is already being installed, then that cannot be claimed for an offset, as it would have been built anyway. Second, the carbon offset must not be reversed or terminated, it must have permanence in order to properly reduce greenhouse gasses into the future. Third, no projects or credits can be counted multiple times. Once a project has been transferred into a credit it is hard to miscount, but some countries and companies may try to double-count forest preservation efforts. Lastly, each offset must meet supplementary “co-benefits” established by the UN that provide other environmental and socioeconomic benefits. As the market is young, it will largely be up to the investor to research and to determine how sustainable a specific carbon credit truly is (Favasuli & Sebastian, 2021).
References
Chen, M. (2022, April 14). ETFs to Access a Maturing Carbon Allowances Market. ETF Trends. https://www.etftrends.com/climate-insights-channel/etfs-to-access-a-maturing-carbon-allowances-market/
Favasuli, S., & Sebastian, V. (2021, June 10). Voluntary carbon markets: how they work, how they’re priced and who’s involved. Www.spglobal.com. https://www.spglobal.com/commodityinsights/en/market-insights/blogs/energy-transition/061021-voluntary-carbon-markets-pricing-participants-trading-corsia-credits
Sharfman, B. (2022, March 22). Opinion | So Much for Engine No. 1’s Climate Activism at Exxon Mobil. Wall Street Journal. https://www.wsj.com/articles/engine-no-1-exxon-mobil-shale-oil-gas-climate-change-activist-hedge-fund-11647904364
Toplensky, R. (2022, April 14). Europe’s Carbon Market Passes the Test. Wall Street Journal. https://www.wsj.com/articles/europes-carbon-market-passes-the-test-11649934180?mod=markets_lead_pos13United Nations. (2000). Emissions Trading | UNFCCC. Unfccc.int. https://unfccc.int/process/the-kyoto-protocol/mechanisms/emissions-trading