Carbon markets still on life support after climate deal

LONDON Mon Dec 12, 2011 1:38pm GMT

LONDON (Reuters) - Carbon markets are still on life support after a U.N. climate deal agreed in South Africa on Sunday put off some big decisions until next year and failed to deliver any hope for a needed boost in carbon permit demand.

A package of accords agreed after marathon U.N. talks in Durban extended the 1997 Kyoto Protocol, the only global pact enforcing carbon cuts, allowing five more years to finalise a wider deal which has so far eluded negotiators.

Kyoto's first phase, which is due to expire at the end of next year but now will extend until 2017, imposed limits only on developed countries, not emerging giants like China and India. The United States never ratified it.

Many traders and analysts said the agreement will do little for carbon prices which are at record lows, as the two main European Union and U.N.-backed markets are stricken by flagging investments, an oversupply of emissions permits and worries about an economic slowdown.

"It's a sedative situation, in which a sick market needs a cure and instead of deciding which cure to use, the doctors keep using pain relief to gain more time to make the final prognosis," said Jacopo Visetti, carbon trader at AitherCO2.

POSITIVE SIGNAL

The deal gave a positive signal to investors uncertain about the fate of Kyoto's Clean Development Mechanism (CDM), which gives developed nations and firms carbon offsets in return for investing in carbon-cutting projects in poor nations.

New investment in the CDM fell last year to just a fifth of its record high in 2007 of $7.4 billion as many clean energy project developers and traders scaled back their activities.

"We are more encouraged than we were last week," said Ian Simm, chief executive at Impax Asset Management, which has just over 2 billion pounds under management and invests in environmental markets.

"It confirms that there will be parts of the world that will continue to accelerate the development of markets for cleaner technology," he said.

But carbon offsets under the CDM, so-called certified emission reductions, were trading just above 5 euros a tonne on Monday, near record lows.

Many observers are doubtful of a rebound in demand for the permits.

"Thanks to Durban, the CDM will live to see another day, but demand for credits for these projects is lacklustre," said Jonathan Grant, director of carbon markets and climate policy at PricewaterhouseCoopers.

DOLDRUMS

"Carbon markets are expected to stay in the doldrums, because of oversupply in the (European carbon) market as a result of the recession," Grant said.

The world's biggest carbon market, the EU's emissions trading scheme, caps the emissions of some 11,000 polluting power firms and industrial plants in 30 countries.

EU carbon prices have lost over half their value since June mainly due to economic growth concerns and over-supply, trading around record low levels below 8 euros a tonne on Monday.

Durban's deferral of some key decisions on new market mechanisms until next year left many frustrated.

"(It's) impossible to take any longer-term decisions," said Per Lekander, an analyst at Swiss bank UBS. "You don't know what to do and what (is the) validity of different instruments."

Without major emitting nations spelling out their emission reduction targets, the deal will do little to spur demand in carbon markets, already oversupplied with hundreds of millions of permits and international credits.

"It's an agreement between parties to arrange another agreement. It is more or less like a mother that tells her child 'ok, we will do it,'" said Matteo Mazzoni, carbon analyst at Nomisma Energia in Italy.

Instead, carbon prices are expected to be driven more by European growth prospects.

"It's possible that carbon prices have seen their floor. But the positive momentum given by Durban can only be sustained if the resolution on the European debt crisis continues on the right path," analyst Emmanuel Fages at Societe Generale said. "The uncertainty remains."

Trevor Sikorski, head of carbon research at Barclays Capital, said: "Supply is still the fundamental problem." He estimated a surplus of over a billion EU and international carbon credits during the period 2008-2012.

He expects the EU carbon market to be oversupplied through 2020, though sees some chance of carbon prices bouncing when big European utilities start hedging their sales of carbon-intensive power generation for 2013.

"A sustained increase in prices is probably not going to happen until the end of next year," Sikorski said.

(Editing by Jason Neely)