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Our KLIMA Market View - Update

28 March, 2022

The current geopolitical situation and resulting market volatility has created some exciting risk-reward opportunities across global markets and the carbon space is no exception. At Klimaworks Ventures we believe that all else being equal, the fundamentals for carbon markets both compliance and voluntary have improved over the last month at the same time there have been significant price dislocations that offer enhanced return potential.

Whilst EU ETS has bounced back over 40% from recent lows with real buyers taking advantage of lower prices to lower their average compliance price (as can be seen with record high cover ratios in the spot auctions where we have seen 3x the number of buyers versus available credits), other global carbon markets that have been caught in the forced selling by energy houses and are trading at extremely attractive entry levels.

The priority of the west to reduce dependency on Russian Gas leads to a dirtier energy mix with coal being the obvious alternative. To produce one kilowatt hour of energy, coal produces double the amount of CO2, meaning a natural increase in demand for carbon credits from compliance buyers. Whilst reduced economic activity potentially leads to less production and energy demand which is negative for carbon demand, we think this is more than compensated for by the reliance on dirtier fuels and the prevalent structural supply shortage of allowances over the coming years.

This is further supported by political will to tighten compliance market supply and opt for a faster phase-out of free allowances. Although, initial fears around political sentiment were that the green transition and carbon related activities would take a back seat whilst the west looked to secure more stable sources of energy supply, there has been a consensus that the auctions of compliance carbon credits have gone from being a potential pass-through cost, to a vital source of revenue to be channelled to help alleviate the energy price burden on the most vulnerable. This doubling down by global governments on their green commitments can also be seen in the voluntary offset market, with the SEC announcing plans to require US companies to report full and accurate disclosure of their emissions which we believe will only add to the demand for quality verified offsets, the supply of which has already been significantly eroded over the last year, with available supply falling circa 50%. This is very big news for the Carbon markets. We continue to believe that everyone should have an allocation to carbon markets as they play an ever-increasing role in the green transition and that price dislocations and volatility will continue to provide a strong environment for absolute return and alpha generation strategies.


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