It’s been a wild ten days for equities and commodities in general: you know this better than I, I suspect. But at some point it’s worth pressing “pause” and having a look around the landscape.
Firstly, let’s remember where we were ten days ago. When the market closed on Thursday March 5, things looked reasonably stable. As the index chart below shows, European power, gas, power and carbon had all found something resembling a level at the end of January which they more or less tracked throughout February.
Source: ICE Futures, EEX, ICE Endex
Friday March 6 could be regarded as the starting gun, when Brent lost $4.50/bbl and coal shed $1/tonne. The rest of the European energy markets managed to hold it together for another trading session until Monday March 9.
Since then, it’s a pretty ugly picture as the index below (March 5 = 100) shows.
Source: ICE Futures, EEX, ICE Endex
Surprisingly, coal has managed the best of all the energy complex, shedding just 3% since March 5, while Brent has plunged by 42% and EUAs by 23%. Gas and power are at 88-89% of their March 5 price.
Why is coal so stable? Chinese coal output in January and February fell 6%, and while that might support demand for imports, there are still delays and restrictions at Chinese ports for regional cargoes. There are reports that Chinese buyers are starting to look farther afield for supplies that might not be subject to these delays.
Lower exports from Indonesia, the risk of strikes at Colombian mines and a sense that prices are about as low as they can go might be putting a floor under coal prices.
And of course, the plunge in carbon prices could also be lending some support. But, is it really?
The chart below shows the climate spread (the differential between clean dark and clean spark spreads) for the rolling front month, front quarter and calendar 2021 contracts.
Source: ICE Futures, EEX, ICE Endex
Both the month and quarter ahead show a €10/MWh advantage for natural gas over coal. Yes, the differential has narrowed in recent days – at one point in late February the climate spread for both was more than €12/MWh – but it’s still a healthy margin in favour of gas.
Now on to carbon.
The last three weeks have seen an upward trend in trading volume on ICE Futures. Weekly screen volume in the Dec 20 contract had been averaging around 100,000 lots a week, but the last two full weeks have seen 103k, 108k and 154k lots changing hands on screen. After just two days this week, the total is already 98k.
Combine that with the vertiginous drop in price and it seems clear that some significant liquidation of positions is going on. We are back to price levels last seen in late 2018, when the market was still soaring on anticipation of the MSR, and a lot of length was being put on. Now it’s being sold off.
Obviously a lot of speculators are unloading long positions, and there is talk that industrials too, are selling freely-allocated EUAs to generate cash to tide them over the coming weeks and months.
Tuesday’s EEX auction failed to clear, indicating that there’s not a lot of interest from utilities either. They could well be unwinding carbon positions that were added at higher prices, and waiting to re-hedge their future generation at a much lower EUA price.
After the first failed auction in nine months on Tuesday, Wednesday’s UK sale will be a critical signal to the market of just how much or how little demand there is right now. Oh, and let’s not forget the Swiss auction also failed….
So how low can carbon go?
Prices have lost 23% in just five trading sessions. In the past five days the market has blown through successive support levels at €23.05, €22.26, €21.35 and €18.83.
The next major support is €15.80, the low from November 1, 2018, though some analysts see interim support levels in the €17s.
But in a market that has moved as rapidly and a far as this, only the big figures have real value as psychological waypoints. Many traders have pointed to €15 as a significant number – €14.80 is a local low from July 2018 – and we might see some support emerge there.
In any case, my blog of two weeks ago attempting to explain carbon’s stubborn refusal to drop is well and truly obsolete now….