Europe's Carbon-Trading Pioneers

The cap-and-trade-emissions market has spawned a host of innovators who act as brokers and deal in carbon dioxide futures and derivatives

by Mark Scott

Armani-clad investment bankers usually don't get much credit for saving the world. But the success of Europe's thriving market in trading carbon emission credits highlights a major area of innovation there—and a rare instance where making money and helping the planet go hand in hand.

This is no feel-good charity scheme. Enticed by the possibility of high returns from the European Union's Emission Trading Scheme (EU ETS), financial institutions, including Barclays (BCS) and Morgan Stanley (MS), have flooded into the Continent's cap-and-trade carbon dioxide market (BusinessWeek.com, 11/1/06) since its creation in 2005. Now, an estimated $78.6 billion in carbon credits—the right to emit a specific amount of carbon dioxide—are traded annually on the EU ETS. And trades in other carbon-related financial products, such as derivatives and futures, are posting double-digit gains each year.

Helping to fuel the market's rapid expansion (BusinessWeek.com, 1/23/08) are a host of new products and services revolving around carbon trading. Perhaps no company has jumped on the opportunity more than Dutch startup European Climate Exchange (ECX), whose platform handles 85% of the 1.2 billion carbon emission trades made annually in Europe via exchanges. (An additional 800,000 or so carbon credits are traded bilaterally between companies, not via exchanges.) Now ECX is looking to expand into the fast-growing futures market.

An Inventive Partnership

"The EU ETS is an emerging market, so there's high risk and high returns," says Sara Stahl, ECX's business development manager. "There's a lot of liquidity in the market as financial players have entered either as brokers or have looked to trade [for themselves.]"

One key to ECX's success was how fast it was able to get to market. To accelerate its product launch in 2005, the company banished not-invented-here syndrome and joined with Atlanta-based Intercontinental Exchange (ICE), a maker of electronic trading systems widely used for futures, derivatives, and commodities. That gave ECX the necessary infrastructure, such as trading software, as well as entrée to ICE's base of more than 9,000 clients.

"A lot of these players were already trading energy-related contracts, so our carbon product was a logical fit," says ECX's Stahl. "If you're trading oil, for example, looking at the carbon contracts just makes sense."

The Incumbent in a Mature Market

This ready-made approach has given ECX an early advantage over rivals such as NYSE Euronext (NYX). In partnership with French bank Caisse des Dépôts, the transatlantic stock exchange launched spot emissions trading (BusinessWeek.com, 10/23/07) on its Bluenext platform on Jan. 22, 2008, and futures contracts on Apr. 21, 2008.

According to analysts, about three-fifths of EU ETS trading occurs on exchanges such as ECX and Bluenext, while 40% is brokered directly between buyers and sellers of carbon credits. By launching its exchange first, ECX is now the incumbent in a market that has expanded sevenfold to 2 billion emissions credits over the last three years. "Emissions trading has grown up very fast and is now well established," says ECX's Stahl.