Issue #35
November/December 2004
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Finance Developments at the Chicago Climate Exchange by David Katz In our March, 2003 article “Chicago Climate Exchange”, we described the efforts of a group of commodity traders and environmentalists to create an exchange that would implement the “cap and trade” approach to reducing greenhouse gases in order to slow global warming and reduce air pollution. The past eight months have demonstrated the success of the idea and the viability of the Chicago Climate Exchange. Now, having received approval by the CFTC (the Commodities Futures Trading Commission, the regulatory body overseeing all futures trading activity), the CCE is preparing to begin trading futures contracts in sulphur dioxide emissions as the Chicago Climate Futures Exchange. In addition, in conjunction with the International Petroleum Exchange, the CCE has created the European Climate Exchange for the trading of cash and futures contracts in Carbon Financial Instruments on the IPE's electronic platform.
Until now, the Exchange has functioned as a spot or cash market in emissions gas reduction. With the opening of the Chicago Climate Futures Exchange and European Climate Exchange, cleared and standardized environmental futures contracts can be traded. Initially restricted to sulphur dioxide, plans are in effect for expanding the traded instruments to include other greenhouse gases and other environmental factors. The Clean Air Act sets mandatory targets for SO2 emissions. The new futures exchange will help companies meet these targets.
How will this work? Generators of greenhouse gases (manufacturing, power generation and chemical companies, amongst others) who have pledged to reduce sulphur dioxide or carbon emissions by one percent per year from a baseline set as a previous four year average can sell credits earned by exceeding their designated reduction. Offset providers, (absorbers of greenhouse gases) such as land restoration organizations and tree planting environmental groups can also sell credits, and thus earn funds for their efforts. These credits can be bought by companies failing to meet their reduction requirements in order to satisfy these requirements. In addition, trading and financial firms add liquidity to the market by buying and selling these credits, or futures contracts for these credits.
The ability to buy and sell emission futures on a recognized, regulated exchange expands the number of companies and individual investors who can participate in this market, making the contracts more attractive and more liquid. Trading can be done by an individual or company through any brokerage house that signs up to clear through the new exchanges, or who has a clearing arrangement with such a clearing member.
The “cap and trade” mechanism (capping emissions and then allowing trading in reductions that exceed the agree-upon schedule) embodied in the Chicago Climate Exchange and its subsidiaries provides an attractive, free-market incentive to greenhouse gas emitters to clean up their act, and provides a mechanism for defraying some of the costs involved in accelerating the cleanup. The Chicago Climate Exchange is planning to eventually offer trading in “everything that comes out of the stack”, and even, some day, in endangered species.
Although several greenhouse gas emitting companies have been memebrs of the Chicago Climate Exchange since the beginning, and more have joined as the Exchange's success have become apparent, their numbers are still small. The addition of futures trading will encourage more of these companies to join, and still others to participate through their brokers. Combining an attractive product with an intelligently designed process, the Chicago Climate Exchange is proving that environmental concern can be good business.
New York Stringer is published by NYStringer.com. For all communications, contact David Katz, Editor and Publisher, at david@nystringer.com
All content copyright 2004 by nystringer.com
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