Overview of the Carbon Market and ProjectBased Credits

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Overview of the Carbon Market and Project-Based
Credits

• New Zealand Carbon Markets Workshop
• Wellington, 4 April 2008

Toru Kubo Clean Energy and Climate Change
Specialist Asian Development Bank
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ADB Basics

• The Asian Development Bank (ADB)
• Multilateral development finance institution
  established in 1966
• Provides lending and technical assistance
• 67 members 48 of which are from Asia and
  Pacific region
• 2004-2007 lending US 6-10 billion per year
• ADBs mission aims to help its developing member
  countries (DMCs) reduce poverty
• ADBs strategic agenda
• Focuses on pro-poor sustainable economic growth,
  inclusive social development, and governance for
  effective policies and institutions.

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ADBs Role in Climate Change

• Increase SUPPLY of projects
• Underlying finance and services
• Capacity Building for project development
• Clean energy and other GHG mitigation projects
• Adaptation projects
• CDM Project technical and financial support

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(No Transcript)
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Outline

• Why is there a carbon market?
• What is the size of the carbon market?
• Who is selling?
• What project types are selling?
• Who is buying?
• What are current carbon prices?
• Structure of project transactions
• Market outlook
• Future Carbon Fund (post-2012)

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Outline

• Why is there a carbon market?
• What is the size of the carbon market?
• Who is selling?
• What project types are selling?
• Who is buying?
• What are current carbon prices?
• Structure of project transactions
• Market outlook
• Future Carbon Fund (post-2012)

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Global Kyoto Commitment

• 38 countries faced reduction/limitation
  commitments - overall reduction of 5.2 from 1990
  emission levels
• Commitments respond to a GHG reduction of 30-40
  below business as usual forecasts over period
  2008 - 2012

N. ZEALAND 0

• U.S. has not ratified and are engaged in
  voluntary market and state/regional-level
  activities at this time
• Kyoto Parties also agreed to successive
  commitment periods (2013-2017 and 2018-2022) but
  have not agreed on reduction targets

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Annex B targets vs. business-as-usual trends
Source Point Carbon
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Carbon Markets
CDM / JI projects
Voluntary Market
CCX RGGI California US Federal system?
1) Primary CER/ERU supply via Emission Reduction
Purchase Agreements (ERPAs) 2) Secondary trade
either on forward basis or spot market
European Bloc
Canada
Japan
NZL
AUS
Large Final Emitters
EU-ETS
Keidanren Voluntary Agreement
ETS
ETS
AAU supply via Green Investment Scheme (GIS)?
Russia, Ukraine, Former Eastern Bloc countries
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CDM Matter of cost effectiveness
50-400/tCO2e abatement cost
0.5-20/tCO2e abatement cost
Developing Country (non-Annex B)
Carbon Credits

• Entity B

• Project Activity
• Emission Reduction

Funds Technology (Capacity Building)
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Outline

• Why is there a carbon market?
• What is the size of the carbon market?
• Who is selling?
• What project types are selling?
• Who is buying?
• What are current carbon prices?
• Structure of project transactions
• Market outlook
• Future Carbon Fund (post-2012)

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Key Market Figures Trends

• 2005, 2006, 2007 carbon market valued at EUR9.4
  billion, 22 billion, 40 billion, respectively
• More than 400 million project credits traded in
  2005, 3 times the volume in 2004
• Approximately 550 million project credits traded
  in 2006, and nearly 1 billion in 2007
• Project credit market still dominated by CDM
• Secondary CDM volume rising rapidly as primary
  CERs decline facing 2012

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Growing Market
Source Point Carbon
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Growing Market
Source Point Carbon
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Outline

• Why is there a carbon market?
• What is the size of the carbon market?
• Who is selling?
• What project types are selling?
• Who is buying?
• What are current carbon prices?
• Structure of project transactions
• Market outlook
• Future Carbon Fund (post-2012)

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Who is selling?

• Dominated by Asia Pacific (India, China)
• Followed by Latin America (Brazil, Mexico, Chile)
• Latest addition is the Middle East with several
  projects in the pipeline
• Africa still very under-represented

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Who is selling?By Region/Volume (ktCO2e 2012)
Source Ecosecurities
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Who is selling?By Country/Number and Credit
Volume (ktCO2e)

• 2,728 MT credits to end-2012 from 3,016 projects
  in 84 countries
• REG 1,118 MT credits from 848 projects in 50
  countries

Source ABN AMRO Bank N.V. data
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Outline

• Why is there a carbon market?
• What is the size of the carbon market?
• Who is selling?
• What project types are selling?
• Who is buying?
• What are current carbon prices?
• Structure of project transactions
• Market outlook
• Future Carbon Fund (post-2012)

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What is selling?No. of PDDs by Technology
Source Ecosecurities
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What is selling?No. of PDDs by Technology

• Biomass and Hydro dominate in terms of Project
  Numbers
• But in terms of volume

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What is selling?Volume to 2012 by Technology
Source Ecosecurities
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What is selling?Number vs. Credit Volume by
Technology
Source ABN AMRO Bank N.V. data
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Snapshot of who and what sellsChina and HFC
dominant (2006)
Source Point Carbon
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Snapshot of who and what sellsChina still
dominant (2007)
Source Point Carbon
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Outline

• Why is there a carbon market?
• What is the size of the carbon market?
• Who is selling?
• What project types are selling?
• Who is buying?
• What are current carbon prices?
• Structure of project transactions
• Market outlook
• Future Carbon Fund (post-2012)

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Who is Buying? (2007)
Source Point Carbon
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Who is Buying?

• European buyers now account for over 75 of
  purchases
• Great increase in the number of funds
• Roughly 3/4 by private sector, 1/4 by government
  (including through carbon funds)
• Japan has declined sharply, from being the
  largest buyer in 2003-2004 (29) to only 15 in
  2007

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Outline

• Why is there a carbon market?
• What is the size of the carbon market?
• Who is selling?
• What project types are selling?
• Who is buying?
• What are current carbon prices?
• Structure of project transactions
• Market outlook
• Future Carbon Fund (post-2012)

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Whats For Sale?

• Allowances (EUA, NZU, etc) allocation from Govt
  1 tCO2e
• Certified Emission Reduction (CER) a carbon
  credit from a registered CDM project 1 tCO2e
• Verified Emission Reduction (VER) a carbon
  credit from a CDM project which is not yet
  certified 1 tCO2e
• Emission Reduction Unit (ERU) a carbon credit
  from a registered JI project 1 tCO2e
• Temporary carbon credits a carbon credit from
  sequestration projects that are time-bound 1
  tCO2e with fixed validity period

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EUA Prices and VolumeFeb 2006 - Mar 2008
Source European Climate Exchange
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EU Emissions Trading Scheme

• Cap and trade system covering over 12,000
  industrial installations in 28 countries
  amounting to about 46 of EU emissions
• Strict penalties for non-compliance
• 2005-2007 40/tCO2e
• 2008-2012 100/tCO2e
• An installation that has a shortage of
  allowances can choose from
• Implementing in-house emission reductions
• Buying EU allowances on the market
• Buying JI and CDM credits (through the Linking
  Directive)

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CERs

• Still trade at a discount to EUAs
• Typically within the range 7 18/CER
• Forward contracts for CERs riskier than forward
  contracts for EUAs
• EUAs are govt issued, creditworthy
• Delivery uncertainty of CERs
• Few CERs issued so far
• International Transaction Log not yet established
  for CERs
• Eventually prices should start to converge?

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EUAs to CERs

• CER Spot linked to EUA 08, spread narrows/widens
  with bear/bull market
• CER Forwards more stable, lag EUA price

Source ABN AMRO Bank N.V. data
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CDM/JI Key Price Determinants

• Risk allocation
• Creditworthiness experience of project sponsor
• Viability of underlying project
• Contract structure (e.g. upfront payments incur
  discount, penalties for non-delivery, ability to
  pay penalties)
• Cost of validation, verification, admin fees
• Host country support willingness to cooperate
• Additional environmental and social benefits
  (e.g. CDM Gold Standard)

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CER Prices by Risk Category (2006)
Source Point Carbon
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Outline

• Why is there a carbon market?
• What is the size of the carbon market?
• Who is selling?
• What project types are selling?
• Who is buying?
• Impact of the EU ETS
• What are current carbon prices?
• Structure of project transactions
• Market outlook
• Future Carbon Fund (post-2012)

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Structure of Transactions

• Most transactions follow a commodity model (i.e.
  forward contract, payment on delivery)
• Few follow investment model (i.e. debt and/or
  equity for ERs as part of the return)
• Also very few cases where carbon value is
  leveraged for upfront financing
• Therefore, most carbon contracts do not address
  upfront financing barrier
• Most contracts follow International Emission
  Trading Association (IETA) template
• Contracts vary depending on how project, country
  Kyoto risks allocated

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CDM Concept

• Project Activity
• Emission Reduction

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CDM Reality
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Outline

• Why is there a carbon market?
• What is the size of the carbon market?
• Who is selling?
• What project types are selling?
• Who is buying?
• Impact of the EU ETS
• What are current carbon prices?
• Structure of project transactions
• Market outlook
• Future Carbon Fund (post-2012)

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Market Outlook

• Up to end-2012 (KP1 or CP1)
• Strong price signal from EU Phase II NAPs
• Greater clarity on import cap of CERs/ERUs
• Growth of spot market in CERs
• More project investment/upfront payment?
• Whats Japan going to do? ETS proposed
• Whats Canada going to do?
• AAUs and green investment scheme?

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Market Outlook

• Post-2012
• Increase in number of mandatory schemes
  regional, national, sub-national
• Increase in number of voluntary schemes
• Greater linkage between trading schemes. ICAP
  carbon credit becoming common link
• Post-2012 global agreement
• What will U.S. position be after elections?
• Will major developing countries take on sectoral
  or intensity based targets?

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Market Summary

• Carbon market Allowance Market (EU-ETS, NZ-ETS
  etc.) and Project Market (CDM, JI etc.)
• Allowance market is larger
• Allowance market driving prices
• Strong demand expected for project credits
• Price depends on contract structure and project
  risk
• Ability to provide upfront finance is key for CDM
• Financial value is likely to continue beyond 2012

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Outline

• Why is there a carbon market?
• What is the size of the carbon market?
• Who is selling?
• What project types are selling?
• Who is buying?
• Impact of the EU ETS
• What are current carbon prices?
• Structure of project transactions
• Market outlook
• Future Carbon Fund (post-2012)

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Post-2012 Context

• No international agreement yet on post-2012
• There is no cohesive, long-term price signal to
  induce developing (and developed) economies to
  invest in low-carbon alternatives
• In the meantime, countries are installing massive
  amounts of new power/thermal capacity with
  conventional systems, locking the world into
  another 20-30 years of voluminous GHG emissions
• Several leading countries have announced
  unilateral long term commitments voluntary
  markets are expanding

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ADB ProposalFuture Carbon Fund

• Establishment of a Future Carbon Fund (FCF) to
  pre-purchase post-2012 credits from projects
  proposed for ADB financing
• Pay upfront to help developing countries reduce
  the upfront capital constraint of installing
  clean energy systems and other low-carbon options
• Associated costs and risks are largely reduced
  due to piggy back design and strategy
• General technical, financial and legal due
  diligence carried out by ADB main operations to
  process/approve financing
• CDM specific due-diligence carried out by
  existing Carbon Market Initiative team
• ADBs institutional involvement ensures
  continuous monitoring of project progress and
  performance

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Turning Cash Flow into Financing
Financing
Cash Flow
Project phase
Year 0 1 2 3 4 5 6 7 8
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Sample Project Financing Plan
ADB Project with Carbon Content Illustrative
Financing Plan - Debt Source of Finance

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Sample Project Credit Flow
Carbon Credit Volume
Year 2007 08 09 10 11 12
13 14 15 16 17 18 19 20
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Priority Target Projects

• Energy Efficiency
• Industrial technology
• Buildings and equipment
• Supply-side efficiency (e.g. upgrade of
  generation equipment)
• Transport
• Public transport
• Vehicle efficiency
• Renewable Energy
• Biomass energy
• Run-of-river hydropower
• Wind power
• Geothermal power
• Waste to energy
• (REDD forestry and land use)?

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Main Advantages

• For Developing Countries
• Reduced budget commitments to close project
  financing plan
• Comprehensive technical and implementation
  support
• Extra credits from successful project
  implementation can be marketed with ADB support
  for further financial upside
• For Fund Participants
• High expected delivery rate and minimal fees due
  to proposed piggy-back structure
• ADB finance and support risk mitigation through
  extensive due diligence
• CMI involvement additional risk mitigation for
  CDM-specific elements
• Positive Public Relations value
• Fair price discounts for time-value of money and
  project risk-sharing

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THANK YOU!!
For inquiries please contact Toru Kubo Energy,
Transport and Water Division Regional
Sustainable Development Department Asian
Development Bank Tel [phone] E-mail
tkubo_at_adb.org