The second panel of SGX Commodities Day in London looked at the rapidly changing and fast-growing carbon credit market.

The panel brought together three carbon trading experts: David Stead, the senior structurer at Vertree, the decarbonisation investment expert; Chris Kennedy, the co-founder of Fortinbras Asset Management, which deploys systematic strategies in the carbon market; and Julien Hall, the product and pricing director at Climate Impact X, the global marketplace for high-quality carbon credits backed by SGX.

Stead told the delegation: “The carbon market has been in constant evolution but we are landing on a set-up at the moment that is working for the market. The history of the carbon market traces back to Kyoto and CDM, and has seen ups and downs, progress and reversals, and volatility of prices. The CDM market has a lot of baggage that it is still working its way through today.”

The Clean Development Mechanism, ushered in under the Kyoto Protocol of 1997, enables carbon emissions reducing projects in developing countries to earn certified emission reduction credits. 

More recently, there have been rapid advances in the global carbon industry, which has bifurcated between the mandatory and the voluntary markets.

Stead added: “There has been a lot of new development in this market in the past two or three years and I am particularly talking about the voluntary carbon market here.”

Mandatory Compliance Market

He added: “There is the compliance market and the voluntary market and you can split all carbon activity into those two sides. The compliance refers to trading schemes and markets that are organised and run by national actors, jurisdictional bodies, with the best example being the European Commission Trading Scheme, which I’m sure many of you are familiar with.”

Stead said the mandatory carbon venues “are in a sense ‘simple’ markets because they are owner-operated and the rules can be set by a single body” but they have taken time to mature.

“Even the European scheme went through its own growing pains because they frankly got the rules wrong but, with 20 years’ experience, that has been replaced and that market I would argue is now functioning very well.”

The European Union Emissions Trading Scheme is the world’s first and largest carbon market, a key mechanism in Europe’s pledge to achieve climate neutrality in the European Union by 2050.

Stead said the compliance markets are also growing in California, Australia, New Zealand and China while the UK has established its own mechanism after breaking away from the European system after Brexit in January 2020.

Voluntary Carbon Trading

Stead continued: “But the voluntary market has provided excitement in the past two years. The voluntary market, as many of you are familiar, is focused on the offset business.

"The voluntary market is dominated by people trying to mitigate against their carbon footprint in novel ways that are not bound by single regulations. That is where the world is trying to organise itself to fix a problem ahead of compliance regulations.”

Chris Kennedy, co-founder at Fortinbras Asset Management, said: “Going forward I think there are going to be significant signs of a merger between the two or at least some element of confluence. The jurisdictional host of SGX in Singapore which is a very good example of how the compliance and the voluntary markets are merging.”

Headquartered in Singapore, Climate Impact X is backed by SGX, DBS Bank, Standard Chartered and Temasek. The company acts as a global exchange for high-quality voluntary carbon credits with the ambition of enabling environmental impact at scale.

Kennedy said Climate Impact X, like other initiatives in Japan, South Korea and South Africa, is helping to create standards in the voluntary carbon market which will encourage further adoption globally.

“Going forward, what we are talking about here becomes a little obfuscated given most of the audience here are commodity traders, so you are familiar with quantifiable entities of what you buy. If you think about what you buy in the oil market, you buy a barrel of oil and it is a barrel of oil that gets delivered.”

Kennedy continued: “Part of the problem we’ve had with the carbon market on the voluntary side is that there is a little bit of fudge room around is it a tonne of carbon or is it not?

Convergence in Carbon Trading

Kennedy believes, as part of the development of the carbon industry, the compliance and voluntary carbon trading will converge.

He said: “The point going forward is that there is going to a merger of the compliance and the voluntary markets around the idea that there is one carbon price. In five or ten years’ time, you will see on Bloomberg news they will talk about the financial metrics of the day being dollar/euro exchange rate, the S&P, the US treasury level and the price of carbon not necessarily discriminating between voluntary and compliance.”

Kennedy told the delegation that regulation will also play an important role in the maturation of the carbon market.

“There are a lot of quasi-regulatory developments but I would bring it down to one major prime mover and that is the SEC, which said in April of this year said if a publicly-listed company makes a net zero claim, back it up.”

US equities regulator the Securities and Exchange Commission (SEC) proposed earlier this year reforms that would require registrants to include certain climate-related disclosures in their registration statements and periodic reports, a major boost for the US carbon market.

Under the SEC proposals, listed firms would be required to disclose their greenhouse gas emissions.

Kennedy concluded by telling the delegation: “So the prime mover for that merger is going to come from the regulatory side. The development of the market is going to become more commoditised in the way that the audience here is used to.”

Julien Hall, the product and pricing director at Climate Impact X, picked up on the dynamic nature of the carbon market, suggesting it is maturing like other more established commodities.

The Evolution of Carbon Trading

He said: “I see the voluntary carbon market a little bit like a prehistoric bulk commodity. There must have been a time in iron ore history, for example, when people didn’t have a standardised process for cargo inspections – where customers were still figuring what specifications they were most interested or concerned about, whether Fe, alumina or silica. This is where we are in the voluntary carbon market. People are figuring it out what matters most to them.”

Hall told the delegation that transparency is key to participation and this is an issue that Climate Impact X is seeking to address.

“It is also a little bit prehistoric from a transparency point of view. It is a very fragmented, opaque market, with dozens of brokers broking physical transactions for VCMs around the world across maybe a dozen major types, of which nature-based is the biggest right now. There are no established industry price benchmarks yet and we are starting to see price differentiation happen at project level, between different projects.”

Hall said these issues are consistent with those of a maturing commodity market and certainly not specific to carbon trading.

He concluded: “There are also very big differences in prices between the different types of credits. The cheapest credit you can find today is probably one or two dollars while most expensive ones can reach 1000 dollars a tonne, for cutting-edge engineered removal credits.”

Hall agreed with Kennedy that regulation potentially has a key role to play in developing standards and encouraging new entrants into the global carbon market.

The Climate Impact X director told the delegation: “It is worth noting that there is a rising tide of expectation on quality, which some expect could be accompanied by a rising regulatory tide.”

The SGX Commodities Day was held in the Westin Hotel in London in November, and brought together some of the world’s top commodities traders, brokers and analysts, including SGX’s many commodities experts.

The presentations are being published in a series.

The first article covering the SGX Commodities Day in London is available here.

The second article in the series, featuring SGX's head of global sales Pol De Win, is available here

The third article includes an overview of SGX Commodities by the group's director Tan Tee Yong and is available here.

The fourth piece in the series covers a panel discussion on the changing global demand for iron ore.

The fifth article considers how the SGX's Baltic Exchange is supporting the global freight industry.

The sixth article in the series looked at how the supply of battery metals is affecting the electric car industry.