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Record volatility roils EU carbon markets

Traders are focused on the impact of Market Stability Reserve measures due to be introduced from 2019 to 2023

European carbon allowances had their most volatile five-day session ever last week, as a record high triggered profit-taking that led to panic selling. The market was hit by a series of events which persuaded speculators to ditch sizeable holdings after enjoying a trebling of prices this year.

After reaching a ten-year high at €25.79 on Monday, EU Allowances (EUAs) plunged to as low as €17.90 on Friday.

Monday's record high capped a six-day rally that saw EUA prices spike by nearly 28%, as traders continued to bet that measures to eliminate a chronic oversupply of permits would boost prices yet further. Analysts have recently forecast that EUAs could reach €30 by the end of the year. 

 The extreme gains prompted Polish energy minister Krzysztof Tchorzewski to call on the European Union to intervene in the market.

"The situation calls for intervention. We need to ask the European Commission to look into it," Tchorzewski was quoted as telling the Polish state-run news agency PAP.

Poland relies on coal for more than 90% of its electricity, so its power companies have been particularly hard-hit by the EUA price increase.

Tchorzewski's comments were largely dismissed by long-standing market participants, but were enough to convince some speculative traders to sell their positions, sources said.

Ironically, many traders had already begun to speculate whether certain price control measures already built in to the EU carbon market could be activated in the near future.

Article 29a of the EU Emissions Trading Directive allows member states to bring additional supply to the market if the average price over the most recent six months rises to more than three times the average in the preceding two years.

According to calculations shared among analysts and traders, EUA prices could reach this level before the end of the year.

However, none of the sources interviewed over the past week believe the measure will be triggered. Prices have risen, they say, because EU member states agreed structural changes to the market that will take effect in January, and which will remove a long-standing surplus of allowances.

A new Market Stability Reserve (MSR) will remove 24% of the calculated oversupply of EUAs each year from 2019 to 2023.

"The current bull run is to a large extent a frontrunning of the [MSR's] effect and as such is caused by fundamental changes to the market infrastructure," said Marcus Ferdinand, an analyst at ICIS.

"It is almost impossible to trigger a release of allowances based on the current market developments as this would contradict the understanding of market participants that the MSR is a fundamental game-changer for the ETS," he added.

"The [remote] possibility that this may happen [would] likely to trigger massive sales from the financial sector," said Matteo Mazzoni of Nomisma Energia. "I don't think they would even wait to know whether [additional supplies] are triggered or not."

Later in the week, the entire European energy market was jolted by the news that a private trader with significant positions in German and Scandinavian power had defaulted, forcing the NASDAQ exchange, which is a significant bourse for Scandinavian power futures, to liquidate his positions.

The unwinding of positions on NASDAQ caused a heavy sell-off in German power, which is closely linked to EU carbon. But while benchmark German power futures dropped by 6.2%, carbon plunged nearly 18% as bearish sentiment snowballed.

By Friday, EU carbon traders were totally uncertain of the market's direction, and prices fluctuated in a nearly €3 range as bulls and bears struggled for the upper hand. After reaching a low of €17.90, the market rallied and closed just shy of €20/tonne.

Despite the current volatility, most analysts agree that the outlook for carbon permits remains bullish.

"The upward trend is still valid," said Bernadett Papp, an analyst at carbon trader Vertis Environmental Finance in Prague. "Prices will increase further as we approach the start of the MSR."

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