Houston poised to become California CO2 trading hub

London, 1 February, 2012: Reuters

California will next year host the world’s second biggest CO2 market as it tries to roll back its carbon footprint two decades, but it will not be San Francisco or Los Angeles that will be the center of trade, but the U.S. oil-dealing hub in Texas. Home to dozens of oil, gas and power firms, the city of Houston stands to emerge as the nerve center for trade in California emission permits when the market starts in 2013.

In an ironic twist, ICAP Energy, Vitol and JP Morgan, as well as several other international banks, will run desks aimed at cutting emissions while sitting in offices in the country’s biggest polluting state.

“At this point, California carbon is being seen largely as an extension of the energy business and Houston is the main hub for energy,” said Henrik Hasselknippe, director of global project development at the Green Exchange (GreenX).

Banks, brokers and trading houses will join nearly one dozen Houston-based power, oil and gas companies who will face caps under California’s cap-and-trade scheme and trade permits from Texas.

“It’s very safe to say that Houston should have a vibrant capacity to do some carbon trading, specifically for the California market, specifically because we have a vibrant energy trading sector here,” said Mithun Rathore, a broker at Amerex.

Companies subject to caps “are already attributing or correlating carbon compliance with west coast power trading, so there is a good number of companies assigning their carbon trading to their west power traders, who are pricing (CO2 permits) into the forward curve,” he added.

Some observers said while New York is a more suitable base for financial trade, specialized energy-related commodities, such as carbon, have a hard time competing there.

“The carrying costs of New York are very expensive. When you compare (carbon trading) to the benefits from general financial trading – it may not be enough to compete,” said Victor Flatt, an environmental law professor at the University of North Carolina.

TESTING THE MARKET

Trade in California Allowances (CCAs) has been piecemeal so far, but analysts predict activity will take off in the second half of the year, when companies facing caps are cleared to begin buying pollution permits.

Investment bank Barclays Capital was an early player in the California carbon market, having traded the first forward CCAs in November 2010, but has since closed its New York emissions trading desk citing the uncertain regulatory environment and poor margins.

But Barclay’s move to close operations is not a common trend seen at other institutions.

One vice president of power and gas at an international bank who requested anonymity said his team “has to follow” California carbon, but has so far only bought a small amount of allowances in preparation for a larger market.

Meanwhile, Fabio Nehme, general manager for environmental products at the Houston office of energy company EDF Trading’s, said his firm was “getting organized” to be able to engage more actively in the market once trading volume becomes more robust.

Amerex’s Rathore said he expects the larger California emitters in the power sector to start becoming active in pre-compliance trade by the second quarter of the year, ahead of the first auction of CCAs.

But liquidity should increase later this year or next year when large energy companies who export oil and gas to California, prepare join the mandatory market in 2015.

“It’s smart to start understanding the market early,” he said. “Once the clock starts ticking you want to make sure you are not caught with your pants down.”

Some observers expect carbon trading activity to move westward after traders get their feet wet in California emissions trading in the program's early years.

CALIFORNIA JOBS

Tim O'Connor, director of California climate policy for the Environmental Defense Fund', said it is natural for trading to start in Houston because there is an infrastructure already in place.

But as demand for permits increases, he said he expects California's cities to create new jobs for for lawyers, consultants and traders who understand the state's market regulations.

"I think what we will see is increasing pressure for people who are here in California who know the California landscape and how the market works," he said.

He added that despite the fact that some California carbon market jobs will be based in Houston, it does not mean "green jobs" will be lost in the state -- a criticism of opponents of cap-and-trade.

O'Connor said the program will generate new jobs in companies specializing in energy efficiency, renewable energy and clean technology.