Carbon markets are becoming increasingly popular in the United States, and several trading platforms are leading the pack. Here are some names to know.
In December of 1997, 198 parties to the United Nations Framework Convention on Climate Change (UNFCCC) convened in Kyoto, Japan, to draft an international agreement to cap and reduce human-generated greenhouse gas emissions.
The product of the convention was the Kyoto Protocol, a landmark global treaty that imposed legally-binding emissions targets on signatory countries in an effort to ensure that the concentration of greenhouse gasses would not rise to “a level that would prevent dangerous anthropogenic interference with the climate system”.
The Protocol targeted the reduction of seven greenhouse gasses, including carbon dioxide, methane, and nitrous oxide, which together account for 98% of all greenhouse gas emissions.
While the reduction standards outlined in the treaty were aggressive, drafters of the Kyoto Protocol also recognized that countries could only be held accountable to their emissions targets if they were broadly achievable.
After all, signatory countries each faced unique economic growth rates, obstacles, and priorities, making a one-size-fits-all approach that mandated a rigid, straight-line emissions reduction schedule both impractical and unworkable.
To ensure that the Kyoto Protocol’s aims would actually be realized, the treaty introduced three “flexibility mechanisms” that provided countries with latitude on when and how they could meet their emissions targets.
One of these mechanisms was emissions trading, a novel invention that established greenhouse gas emissions (or more precisely, the permission to generate greenhouse gasses) as a commodity that could be bought, sold, saved, or traded.
Every year, each signatory country would be allotted a certain number of emissions credits. The more credits a country had, the more greenhouse gasses they could emit. Conversely, countries granted a smaller number of credits would face lower emissions thresholds.
If a country generates fewer emissions in a year than their emissions credits cover, they could elect to rollover their credits into the following year, allowing them to offset a greater number of greenhouse gas-emitting activities than the year prior.
Interestingly, countries with leftover credits could also monetize them by selling them to other signatories, especially those that pollute above their allotment and have a need to purchase credits to make up the difference.
As a result, the Kyoto Protocol’s emissions trading flexibility mechanism created a global carbon market that puts a price on greenhouse gas emissions. Today, the Protocol’s innovative “cap-and-trade” framework (i.e., policies that place a cap on emissions via tradable carbon credit allotments) remains the most common type of emission trading system worldwide, and its scalable, flexible, and adaptable design has allowed it to blossom in popularity.
In the more than two decades since the ratification of the Kyoto Protocol, other national and multinational governing bodies have spawned carbon credit systems of their own.
In 2005, the European Union (EU) established the Emissions Trading System (ETS). Like the emissions trading flexibility mechanism outlined in the Kyoto Protocol, the ETS is a “cap-and-trade” policy initiative that is designed to limit EU member countries’ greenhouse gas emissions by providing each country with tradable emissions allowances.
Over the years, the ETS has grown in sophistication and ambition, enabling the EU to set lofty emissions reduction targets for the continent. In 2020, the EU’s executive branch, the European Commission, approved the European Green Deal, a long-term initiative that mandated carbon-neutrality (i.e., zero net greenhouse gas emissions) by 2050.
In order to steer member countries in the right direction, intermediate goals were also put in place. Most notably, the EU aims to achieve a 40% reduction in greenhouse gas emissions (as compared to emission levels in 1990) by the end of the decade. By 2030, member countries are also expected to supply about a third of their energy needs using renewable resources, which include sources such as wind, solar, hydroelectric, bioenergy, and geothermal.
Used to meet these objectives is none other than the ETS, which will dole out emissions credits to member countries at a declining rate of 2.2% annually. As allowances dwindle, the price of credits (and thus the price of the privilege to pollute) is expected to rise gradually.
In August of 2022, the price of a carbon permit (the ETS’ version of a carbon credit, which allows the emission of one metric ton, or 1,000 kilograms, of carbon dioxide), notched a new all-time high of €99 euros (US $95.89), eclipsing the previous high of €98.49 (US $95.40) set in early February of this year.
These highs mean that the cost of polluting has increased by more than six-fold since the EU’s carbon market was established nearly two decades ago. Specifically, when the ETS first launched, the price of emitting a metric ton of carbon dioxide hovered at just €16 (US $15.50).
Encouragingly, gradually raising the financial cost of polluting has appeared to have a sizable impact on greenhouse gas emissions, which is, after all, the ultimate aim of all carbon trading systems.
The European Commission notes that “emissions have been cut by 42.8 percent in the…power and heat generation and energy-intensive industrial installations [sectors]” since the ETS’ introduction roughly 17 years ago, and has declined “11.4% between 2019 and 2020 [alone]”, hopeful statistics that suggest the EU’s aggressive climate goals for both 2030 and 2050 could come to fruition.
Carbon credits have even taken hold in jurisdictions that largely lack mandated and enforced compliance carbon markets. The United States, for instance, is not a party to the Kyoto Protocol and similarly lacks a climate market at the federal level (though it is home to several statewide and regional compliance markets).
Despite these facts, voluntary carbon markets have proven to be popular across the country and have attracted the willing participation of companies and individuals that have no legal obligation to do so.
Unlike compliance carbon markets (like the EU’s ETS) where members are required to take part, voluntary carbon markets are largely administered in a decentralized manner by non-governmental organizations and cannot mandate participation.
These voluntary markets have experienced explosive growth, tripling in size from about $300 million in 2020 to over $1 billion in 2021. This year, activity in voluntary carbon markets in the United States is expected to double again, with industry forecasters expecting the value of carbon offsets to eclipse $2 billion by the end of 2022.
But the market for carbon credits is only beginning to take off. By the end of the decade, voluntary carbon markets may balloon by one to two orders of magnitude, reaching between $10 billion and $180 billion in size. For instance, management consulting firm McKinsey that the voluntary carbon credit market could be worth over $50 billion by 2030.
To facilitate the ever-growing number of carbon credit purchases and sales, trading platforms have emerged, enabling participants in carbon-heavy industries like automaking, oil and gas, space exploration, and manufacturing to purchase offsets from (and therefore also fund) environmentally-friendly projects such as reforestation initiatives, carbon sequestration developments, water desalination operations, renewable energy ventures, and more.
While the U.S. carbon market is heavily fragmented and remains home to a large number of small and disconnected markets, several leaders have emerged in both the voluntary and mandatory space, each bringing unique innovations and solutions to the table.
The RGGI is the United States’ first compliance (i.e., mandatory) carbon market. Founded in 2008, the RGGI is an initiative between twelve states in New England and the Northeast that places an annual limit on greenhouse gas emissions on power plants with generation capacities of 25 megawatts or greater.
Emissions caps decline by 2.5% annually, and the initiative has an intermediate-term goal of reducing carbon dioxide emissions in participating states by 30% between 2020 and 2030.
In fact, the RGGI has already shown some notable success, and is credited in part for lowering carbon emissions in member states by 48% between 2008 and 2018.
In addition to the RGGI, California’s “cap-and-trade” program is the only other compliance carbon market in the United States. Unlike the RGGI, however, which only covers power plants, California’s statewide program extends to the entire state economy, covering entities that emit over 85% of the state’s greenhouse gasses.
California’s carbon market’s goals are bold. By 2030, it hopes to achieve emissions levels that are 40% below 1990 levels. By 2050, it targets emissions levels that are half of its 2030 goal, bringing total emissions down 80% from 1990 levels. More recently, officials have mused an even more aggressive goal of zero net emissions by 2045.
Though mandatory statewide and regional carbon credit policy initiatives remain heavy players in the American carbon market, voluntary markets are beginning to play an important role for the vast majority of companies and organizations that are not involved in a compliance market.
In September of 2022, SaaS pioneer and Customer Relationship Management (CRM) company Salesforce announced the launch of the Net Zero Marketplace, a voluntary carbon credit marketplace that would allow companies and individuals to purchase carbon credits.
Money from these purchases would then be used to fund and sponsor carbon-reduction projects, offering entrepreneurs working on solutions to climate change the opportunity to tap into a market for capital, support, and publicity.
The ongoing climate crisis is arguably the biggest current threat to human civilization, and tackling it will be no small feat. It’s a time-sensitive and resource-intensive challenge that is estimated to require $3.5 trillion in annual investment and five-fold gains in energy efficiency by 2050.
While the task ahead is difficult, it is both necessary and possible. After all, solving the climate crisis and ensuring that the world remains safe and habitable for centuries to come is humanity’s only acceptable path forward, and it is what we owe to future generations.
At The Spaventa Group, we’re committed to doing our part to fund climate solutions. Every year, we scour the market for promising startups and projects, dedicating thousands of hours towards prospecting, examining, and closing deals. Using a rigorous due diligence process, our specialized team of analysts and investment professionals identify bleeding edge companies and founding teams to fund.
We curate these selections into a series of alternative investment funds that you can invest in.
Get in touch with us today to see how funding climate change solutions can help you earn market-beating returns.