NYMEX & The Green Exchange: Good Start, Long Ways to Go

(MoneyWatch)  The Green Exchange announced last week the opening week volume for the first ever exchange-traded options contracts for carbon offsets. During the April 21-25 trade week, counterparties transacted 1,150 certified emissions reduction options contracts. One contract is the equivalent of 1,000 CERs (or 1,000 tons of CO2-equivalent reductions), making the first week volume total for the CER Option contract 1.15 million tons.

The European-style option contracts are cash settled instruments, priced in Euros with a minimum price fluctuation of euro 0.01 per metric ton. There are ten strike prices in increments of euro 0.50 per metric ton above and below the at-the-money strike price. Strike price boundaries are adjusted according to futures price movements.

NYMEX Holdings Inc. President and Chief Executive Officer and member of The Green Exchange Executive Committee, James E. Newsome, called the "initial week of trading under the CER options contract a great start." Several major hurdles, however, still remain before one can confidently pronounce this domestic emissions trading market a success.

The U.S. never ratified the Kyoto Protocol. Ergo, The Green Exchange will need to focus on the crowded global compliance market for growth. Free market trading totaled less than one percent of the 1.64 billion CO2 equivalent tons of aggregate transactions in 2006, according to the World Bank.

The necessary calculus for the future success of The Green Exchange is a domestic industrial cap-and-trade system. A market framework where those exceeding emission caps can buy quantity credits (market-driven allowance pricing) from sellers (with emission allowance balances).

Versions of seven cap-and-trade bills to reduce carbon emissions are before the 110th Congress. The reduction targets vary radically in each legislative proposal, as does the specificity regarding which entities and sectors are covered. Probability than any of these bills will make it to the respective floors of the Senate and House for debate before the November 2008 election is nil!

In contrast to achieving emission reductions via market mechanism -- driving the demand/volume of emissions trading exchanges -- are carbon tax advocates. Economist Charles Komanoff, co-founder of Carbon Tax Center, argues that revenue-neutral carbon taxes are superior to carbon cap-and-trade systems for six fundamental reasons, including transparency, ease of implementation, and less opportunity for manipulation by special interests.

If Congress were to opt for greenhouse gas taxes, volume on The Green Exchange would dry up quicker than water in the Aral Sea.