Environmental Engineering Reference
In-Depth Information
carbon assets, emissions trading and sustainability
strategies across the value chain. Central to this
shift is the notion of carbon as a tool for risk man-
agement in businesses, which occurred through
the instrumentalisation of CO
2
into a tradable
asset. By utilising carbon as a financial instru-
ment, businesses are able to manage project risk,
market risk and reputational risk more effectively.
This chapter demonstrates this argument through
industry examples and provides practical advice
for businesses today.
The instrumentalisation of carbon began in
1997, when the Kyoto Protocol recognized CO
2
as not merely hot air, but rather an internation-
ally acknowledged financing tool for combating
climate change. This led to the commoditisation
of carbon as both an asset class and an instrument,
tradable on commodity exchanges and transactable
over-the-counter. As a result, today carbon plays
host not just to the fundamental markets of the
EU ETS, Clean Development Mechanism (CDM)
and voluntary initiatives, but also to a breadth of
financial products—derivatives, indices, global
exchanges, risk-based pricing instruments, in-
surance options—which have created entire new
businesses. The ability to monetise CO
2
is unlock-
ing new revenue streams in emerging business
models, and moulding corporate structures to
include green financing.
For those companies with project manage-
ment as their core business, carbon finance risk
management tools can shed light on effective tech-
niques for managing counterparty, geographical,
implementation, regulatory and financing risks.
For companies with one foot already in the green
sector, new carbon revenue streams and financing
options provide direct access or exposure to emis-
sions reducing projects, expanding the company's
global scope. The chapter explains how to break
down the risks of an emissions reducing project,
but more importantly, how to apply this method of
risk measurement to broader company objectives.
Companies exposed to the financial markets
have a means of portfolio diversification by draw-
ing on carbon's unique position as an uncorrelated
alternative asset. Energy trading companies and
large industrials are already taking advantage
of the hedging capability of carbon to cover
exposure to oil, coal, metals, European power,
natural gas, and more recently biofuels. With
growing trading volumes, carbon can be similarly
used to hedge currency (fx) and legislative risk
by taking a position in the market and investing
accordingly. Indeed, since 2005 noted peaks and
troughs in the prices of underlying carbon assets
(EUAs, CERs, VERs) occurred as policymakers
vacillated on energy legislation, environmentally
friendly heads of state were (or were not) elected
and economic policy outcomes influenced in-
dustrial output, dictating the amount of CO
2
in
the atmosphere. Managing market risk through
exposure to carbon is particularly salient for
industrials regulated under the EU ETS or those
anticipating regulation in the US or Australasia.
As in the case of early-acting utilities (such as UK
power company Drax), pre-empting legislation
and engaging in carbon trading during the first
phase of the EU ETS helped minimise the cost
of regulatory requirements later.
Reputationally, carbon is both an asset and
a liability as young businesses are discovering.
HSBC's success in creating a carbon neutral
company and raising awareness with its clientele
contrasts starkly with the early days of ExxonMo-
bil's unsympathetic approach to climate change.
The 180-degree turn of many large industrials'
(Holcim, Rhodia, BP) approach to carbon has
benefited them visibly from a corporate social
responsibility (CSR) and a public relations per-
spective, positively mitigating any reputational
hazard. Complementing this, companies such as
the Carbon Neutral Company or—most recently—
Piqqo are emerging to offtake corporate social
responsibility and regulatory risk, at the same time
educating clients on emissions reduction. This
has come most noticeably in the form of carbon
offsetting and carbon footprint product labelling.
