Game on for carbon trading despite uncertainties

The biggest carbon market is the European Union's emissions trading scheme, which has been operating since 2005.

The New Zealand market will not be directly linked to it. European emitters are not allowed to use forestry-based units to meet their obligations.

But there is an indirect link via certified emission reduction units (CERs) created under the Kyoto Protocol's Clean Development Mechanism.

New Zealand emitters are allowed to use them to meet their obligations and so, within certain limits, are their European counterparts. Prices for CERs tend to track prices within the European ETS.

When CER prices, converted into New Zealand dollars, are below the Government's price cap of $25 (discounted to allow for the time before emitters next have to meet their obligations) they present an arbitrage opportunity, says Stuart Frazer of Frazer Lindstrom.

"If the price goes back above $25 you can either hold, or sell and pay the Government the $25."

There are a lot of moving parts in such calculations, however, not only the various influences on European and CER prices, but on the exchange rate with the euro.

"If you were negative on the euro over the next 12 months, you might hold off from buying NZUs and wait for the CER price to go down," Frazer said.

Another source of uncertainty is whether United States lawmakers will pass "cap and trade" legislation setting up their own ETS.

A version has already passed the House of Representatives and President Barack Obama recently reaffirmed his commitment to the policy.

Then there is the vexed question of what sort of global agreement will be in place after the Kyoto Protocol's first commitment period runs out at the end of 2012.

It all amounts to a perfect storm of uncertainty, according to Frazer.

For Nigel Brunel of OM Financial, the track of carbon prices over the past couple of years is largely a reflection of the world economy.

It looks like the square root sign, he says: a steep fall during the global financial crisis followed by a partial recovery, and then sideways.

"There is a risk this could all end in tears. But right now, it's game on."