Get ahead of the game: how to manage CBAM risk with the Greenstar Capital Physical Carbon fund

The European Union's Carbon Border Adjustment Mechanism or CBAM imposes a border levy for importers of fertilisers, steel, aluminium, electricity, hydrogen and cement, applied to direct and indirect emissions. The CBAM adds additional regulatory burden for importers as well as extra cost, and means changes to the EU ETS that will impact companies in supply chains within Europe and outside, not least because the border levy applies only to imports, with no equivalent export subsidy. 

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Why CBAM?

CBAM applies a cost to CO2 emitted in the process of making industrial goods. By having a cost per tonne of CO2, importers are incentivised to look for the lowest carbon source of goods, while manufacturers will be incentivised to reduce emissions and account for the financial impact of CBAM, in order to gain an advantage over the competition. 

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CBAM compliments the EU's Emissions Trading Scheme, which is a market with limited supply of carbon allowances, each one representing one tonne of CO2. The EU ETS applies to European producers of heavy industrial goods (steel, chemicals, aluminium, cement etc.), power production, aviation between EU ETS covered countries, and maritime shipping. As supply of allowances drops over time, carbon prices should increase until it becomes economically viable to use low or zero carbon technologies, by comparison with emissions intensive processes. Therefore carbon prices should start to reflect real costs of cutting emissions, and push companies to implement technologies to cut their emissions. 

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CBAM replaces free allocation of EUAs for covered products, which are summarised below. Currently EU producers of these goods receive allowances for free according to how CO2 efficient they are by comparison with their competitors, with the idea of shielding them from international competition where carbon pricing does not exist. As CBAM buying requirement is phased in, free allowances will be phased out for European producers. This should create a level playing field for European and third country producers of industrial goods and electricity.  

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Coverage: 

CBAM covers the following types of imports initially:

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This coverage applies to imports of raw goods, manufactured goods (i..e steel pipes) and to complex manufactured goods with components made from the above materials. 

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Importers therefore will need to calculate the carbon intensity of their supplier factories per tonne of product, then multiply this by tonnes imported. For electricity the calculation works on a MWh basis. 

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Timeline: 

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Key dates: 

October 2023: CBAM transitional period starts. Importers must work with their suppliers to identify carbon intensities of imported goods, and report these at the CBAM registry here. 

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Reporting can use any of:

- full reporting based on EU methodology (here)

- reporting based on an equivalent method (three options here)

- reporting based on default emissions intensity values (only until July 2024) - available here

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1 January 2025: reporting must be done by the EU methodology exclusively. 

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1 January 2026: CBAM comes into full force. CBAM credits must be bought for 2.5% of embedded emissions, growing to 49.5% by 2030 and 100% by 2034. 

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Indicative carbon intensities and costs

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From 2026, CBAM exposed sectors need to buy CBAM credits. These credits will be based on the previous week's average European Carbon Allowance (EUA) auction price. 

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Below are summarised carbon costs for most exposed industrial sectors to CBAM in 2030. These are based on the EU's default carbon intensity values for each of the countries below, a requirement to cover 48.5% of emissions in imported goods with CBAM credits, and the average price so far in 2024 vs. Bloomberg's forecast of €140 per EUA in 2030.

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Given potentially substantial costs, importers are likely to look for the lowest carbon sources of these products. A hedging strategy for European carbon allowances could lend manufacturers and importers alike a competitive edge as we approach 2030. 

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Those captured by the CBAM should look to a) the European carbon market and b) their own domestic carbon pricing policies and plans, which could allow for some costs to be offset locally. 

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EU carbon pricing: what will determine CBAM costs?

 

CBAM and EU Carbon Allowance prices: the link

As the CBAM price is linked to the EUA price, this presents an opportunity to gain visibility of costs and potentially take advantage of weaker European carbon pricing, that is unlikely to persist through to 2030. 

 

The EUA price is derived from supply and demand for EUAs. Demand is CO2 emissions , while supply is regulated by the European commission, and set on a downward trajectory of 84 million tonnes less CO2 every year. The price of EUAs should be determined by the cost of reducing emissions (i.e. technology), in sufficient quantity for emissions to match yearly EUA supplies, to hit a 62% emissions reduction compared to 2005 emissions levels by 2030, and zero emissions by 2005. 

 

Read our EU ETS explainer for more insight into what moves the EU carbon price. 

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Carbon price outlook:

Analysts broadly expect a recovery for EU carbon prices, which could make 2024 the perfect moment to gain exposure to the market and gain some predictability for future carbon costs. 

 

Current EUA price weakness: two key drivers

a) EUA auctions rescheduled from after 2027 to 2023-26. The intention is to raise €20bn to reduce dependence on fossil fuels given the current geopolitical risks, and amounts to approximately 250 million EUAs to be sold before 2027, at a price of 80 euros. Given that prices have since moved to a low of €51.08, even more EUAs would need to be sold to compensate. 

 

b) weak industrial demand as the European economy struggles following the energy crisis over 2021-23. This cuts emissions - meaning both demand for EUAs from factories, but also demand from fossil fuels. 

 

Will carbon price weakness persist?

Carbon prices are anticipated to test €100 in the second half of the 2020s. Key reasons for this include:

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The Market Stability Reserve:

After 2026 the market is anticipated to tighten drastically. The Market Stability Reserve is a key driver of this, taking 24% of cumulative surplus EUAs left over in the market, and reducing auction supply for the year ahead by that 24% figure. EUA prices are, therefore, expected to test €100 per tonne of CO2 again by 2026.

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Industrial decarbonisation: 

High costs and technological barriers present a significant obstacle to decarbonisation. Though the power sector currently delivers emissions reductions via renewable rollout, once these are exhausted, industrial decarbonisation becomes the focus. EUA supply will continue to grind lower by 84 million tonnes of CO2 a year - without significant efforts, this threatens to drive carbon prices to new highs.

 

CBAM impact on European carbon prices:

The CBAM itself is likely to have a bullish impact on the carbon price as European buyers lose free EUAs that they received prior to CBAM in order to shield them partially from international competition. By 2030, CBAM covered sectors will lose 49.5% of their free EUAs, replaced with the CBAM, forcing those EUA buyers to buy more.

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Getting ahead of the game: the Greenstar Capital Physical Carbon fund

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The Greenstar Capital Physical Carbon Fund is an easy way to gain exposure to European Carbon pricing while prices look at their weakest. 

 

• Invest in the energy transition, benefit from the “EU Green Deal” where more far-reaching taxes on emissions are expected and contribute directly to a reduction in CO2 emissions.

• Tightening market “by design”

• Registered under the Dutch regulator AFM

• No infrastructure required: accounts to hold carbon allowances, European registration not required

• Strong market expertise

• State-of-the-art infrastructure and large network within the sector

• Transparent costs

Request the fund memorandum