CME Group to Launch a Global Emissions Offset Futures Contract

February.04.2021

CME Group has announced plans to launch a carbon futures contract intended to offer a transparent, standardised and market-based solution to manage global emissions risk.

The voluntary carbon market today

As companies look to reduce their greenhouse gas emissions, propelled by regulatory and industry pressures, and increase their efforts to achieve ambitious emissions reduction targets, the carbon offset market has become a popular solution – particularly for those companies who are unable to meet their targets right away.

The carbon market is comprised of ‘compliance’ and ‘voluntary’ markets; the former used by those companies compelled by law to account for their greenhouse gas emissions typically via ‘cap and trade’ schemes (such as those subject to the EU Emissions Trading Scheme), the latter used by companies wishing to reduce their emissions on a voluntary basis. The voluntary carbon market is driven by carbon offset credits called Voluntary Emissions Reductions (VERs).

To date, compliance markets have comprised the vast majority of the carbon market – attributable to the mandatory regulations underpinning such markets and the heavy penalties arising out of non-compliance with carbon reduction regimes. Voluntary markets, largely due to non-mandatory participation and their fragmented, unstandardised nature, have remained smaller and more illiquid markets.

However, the voluntary carbon market has grown significantly in recent years (Ecosystem Marketplace, which tracks the voluntary carbon market, estimated that transactions in 2019 totalled around US$282m) and is expected to continue its rapid growth (the Taskforce on Scaling Voluntary Carbon Markets, co-founded by former BoE governor Mark Carney, recently calculated the voluntary carbon market could grow to more than $50bn by 2030).

Increased popularity has highlighted some of the potential issues underlying the voluntary carbon market; these include its fragmented nature and an inconsistency in best practice guidelines and industry standards.  One other key area of consideration has been around market price and the need for reliable and transparent pricing signals.  

The CBL Global Emissions Offset (GEO) futures contract

On 26 January 2021, CME Group Inc., the US exchange operator, announced the intended launch of the Global Emissions Offset (GEO) futures contract for trade in the voluntary carbon market, which (subject to regulatory approval) should go live on 1 March 2021. The product was jointly developed with Xpansiv CBL Holding Group, the data commodity exchange. Each GEO futures contract represents 1,000 carbon offset credits.

The GEO futures contract is the first physically-settled, exchange-traded product for voluntary carbon offsets. The product allows companies to buy carbon offset credits which have already met the eligibility criteria defined by the International Civil Aviation Organization (ICAO) for the Carbon Offsetting and Reduction Scheme for International Aviation (CORSIA). CORSIA is a globally recognised scheme which was adopted by ICAO in October 2016.

The emission reduction projects to which the carbon offset credits relate will have been reviewed and approved by CORSIA together with a technical advisory body (TAB) consisting of carbon experts from 19 countries. The offset credits sold must be verified from the following ICAO approved registries: Verified Carbon Standard, American Carbon Registry and Climate Action Reserve. The projects and registries underlying the GEO are therefore “pre-vetted”, facilitating a more standardised and efficient way of trading and mitigating scepticism of the actual environmental impact such underlying projects may have.

By trading on exchange, participants also eliminate counterparty risk (hitherto seen as a significant barrier to the proliferation of the voluntary carbon market).

Furthermore, a large, internationally accessible, transparent market is also intended to provide enhanced price discovery and price standardisation. To date, voluntary carbon trading is predominantly project specific and regional in nature, which creates differences in pricing. The GEO futures contract creates a product that can be traded and settled globally.

Impact

It remains to be seen whether the GEO futures contract will prove to be popular with market participants. Nevertheless, it represents a significant milestone in the development of the voluntary carbon market and is anticipated to lead to the creation of competing products, which in turn should further increase liquidity and help define market price. Whilst other exchange operators, notably ICE, have tradable future and options products connected to carbon allowances – those products are linked to compliance market schemes which are regional in nature and closely tied to regulatory developments.

With ESG policies becoming a major trend for companies across all industries and geographies, the voluntary carbon market – and products such as the GEO futures contract – are likely to continue to grow in popularity. Liquid, standardised and transparently priced products offer market participants confidence and will only boost this market further.

The voluntary carbon market and carbon offsetting are considered critical for achieving net-zero greenhouse gas emissions, both at company-specific and national levels, and market-based solutions to scale up the market represent an encouraging step forward.