Healthier Positioning, Green Politics, and Carbon Allowances

Positioning in the market has become less extreme, especially ahead of what has historically been a lower return period for the stock market.

Healthier Positioning, Green Politics, and Carbon Allowances




Important to consider when looking ahead:

Cross Governmental (Green) Cooperation

Policy uncertainty, which during the Trump administration used to be the major driver of headlines (anyone besides CNN and FOX misses those days?) is at the lowest level since April 2019. The world’s political class is projecting a clearer (but not necessarily better) path forward, in unison: huge budgets for green infrastructure, higher taxes, and loose financial conditions. This is one of the most important narratives currently shaping both the economy and financial asset performance. Consider this:

There are plenty more examples to give on this theme, but the idea here is to highlight the political agenda delivering large amounts of capital to green transition projects. This is driving related commodities higher, with copper being the primary beneficiary (with demand coming from EV, Solar, and Wind power).

Chip shortage

We had Big Tech reporting in the last couple of weeks, and we must say, it’s impressive how these companies continue to deliver growth numbers as if they were still recently floated start-ups. Apple reported a 54% increase in revenue to $89.6 billion, its net income more than doubled to $23.6 billion. Similarly, Facebook increased its revenue by 48% to $26.2 billion and almost doubled Net Income to $9.5 billion. Between the two of them, they hold almost $270 billion in cash (*Michael Saylor has entered the chat).

For hardware producers (like Apple) though, the current global chip shortage crisis promises to knock off material amounts of revenue in Q3 and Q4 of this year, meaning that a continuation of this outperformance is now highly unlikely.

The global semiconductor shortage, which impacts almost everything that has any hardware, is a serious supply-chain disruption that will have a material impact across industries (the estimated loss for the auto industry related to this is amounts to $61 billion). Why is there a shortage of chips?

This event, in the longer term, will further fuel the growing post-COVID focus on renationalizing supply chains, and in the shorter term, will make gaming


aficionados a bit more frustrated with the delays in PlayStation gear (#backtoNintendo64).

Carbon Allowances

We’ve all heard about carbon pollution and the need to lower our carbon emission levels in order to fight global warming. Whilst there is a school of thought that believes that carbon emissions are not a precise or even relevant way to track environmental footprint, for the sake of this discussion, we’ll assume that tracking and containing carbon emissions matters (all analysts need to start with some assumption…).

In Europe, carbon emissions came down 21% from 1990 to today. At the European level, the goal is to have emissions in 2030 55% below the 1990 level, meaning that, in less than a decade, Europe wants to reduce carbon emissions by 1.5x what they were able to reduce them by in the last 30 years.

To ensure this target is met, governments and their regulatory bodies have generally tried to contain pollution coming from business activity through two different systems – carbon taxes and carbon allowances.

Carbon allowances differ from carbon taxes as they give quantity certainty (regulators set the maximum amount of carbon emission for a regulated geography within a certain year, and let the price be decided by the market), whilst carbon taxes give price certainty (regulators set the price and companies can pollute as much as they want as long as they pay for each unit of pollution). Carbon allowances should, therefore, be more effective in reducing the total amount of carbon emissions because they actually set a limit to the amount of pollution possible, independently of the price per unit of pollution.

The carbon allowances market in Europe is called the European Emissions Trading System (ETS) – it accounts for 85% of the global carbon allowances market, and it covers around 40% of the greenhouse gas pollution in Europe. It’s the most developed and liquid carbon allowances market in the world and it’s one of those rare cases in which Europe is further ahead than everyone else in the world.

Several industries in Europe are included in this system (Power, Steel, Cement, Aviation, etc.), which means that any business that operates within one of these regulated industries must comply with the ETS.

All this means is that every year the EU sets a maximum amount of pollution that can take place within these industries and issues an equivalent amount of “allowances” that are traded in the open market. These allowances are to be given to or purchased by businesses within the regulated industries, and in return, businesses need to surrender at year-end the number of allowances equivalent to their pollution. If they pollute more than their allowances allow, they need to buy allowances from someone else. If they pollute less, they can keep their allowances for next year or sell them in the market.

It’s a simple supply and demand market, where the regulator sets the level of supply, and businesses create demand based on their level of pollution.

Why are we talking about this in a markets update? Because this is a great example of how financial markets are becoming a tool for governments to make economic participants comply with large, macro, and long-term targets.

Treaties like the Paris Agreement, which attempt to ensure the long-term rise in average temperature stays well below 2 Celsius degrees (sorry Americans, you do the conversion to F), are too broad and macro to give individual businesses guidance on how they need to conduct day to day operations.

Bottoms-up market initiatives, like the European ETS, bridge the gap between the long-term and the day-to-day in a way that, whilst not perfect, certainly increases the likelihood of reaching those goals.

Additionally, carbon allowances might be an interesting investment as well (mixed feelings about this for now). We’ve done some work and we’ll be writing about it in the near future, but all you need to know at this point is that the price of pollution has increasingly become more tangible, and it’s very likely that financial market participants will explore the idea of making profits while supporting a good cause. Even if that’s simply on paper.

More on this in the next weeks.

Published in: Markets
Diego Tremiterra

Co-founder and Editor-in-Chief. Covers Markets, Business, and Thematic Oversight. Currently a hedge fund Jr. PM, ex-Goldman Sachs capital markets and startup COO.

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