After a sudden downturn in California carbon allowance prices last week due to a technical sell-off, investors are now presented with a golden opportunity to seize advantageous positions at discounted rates.
The drop in prices for December 2024 California Carbon Allowances (CCAs) of almost 8% on March 18 was attributed to the expiration of options and artificially inflated long positions. KraneShares indicated that the selling pressure was initiated by the expiry of March options and the hedging practices of put sellers.
With an abundance of put options at the $25 and $30 strike prices, financial institutions found themselves in synthetic long CCA positions. To rebalance, these banks had to increase their long positions. As the put options moved near their expiry significantly off their strike prices, banks were compelled to offload some of their long positions.
The ensuing temporary price capitulation in CCAs was essentially a technical sell-off triggered by institutional activities. Speculation arises around investors exiting the market temporarily to await re-entry close to the California Air and Resources Board regulatory announcements slated for later this year.
Increasing the intrigue, CCAs already appreciate annually, with a floor price that escalates by 5% each year alongside prevailing inflation rates. CARB is poised to further enhance emissions reduction targets from the current 48% of 1990 levels by 2030. Experts project that prices could more than double by 2030, with Bloomberg NEF estimates placing CCA prices around $93 by the end of the decade.
Seizing Long-Term Potential at a Bargain
Despite the recent turbulence, the underlying fundamentals for CCAs remain robust, offering investors a chance to enter the market at reduced costs. Although prices have rebounded post the sell-off, they are still relatively restrained at the moment.
“Whatever the catalyst, this juncture is optimal for establishing positions before the impending market-tightening adjustments,” noted KraneShares.
For investors keen on harnessing the long-term advantages presented by CCAs, exploring the KraneShares California Carbon Allowance ETF (KCCA) could prove rewarding. This fund facilitates targeted exposure to both the California and Quebec carbon allowance markets, benefiting from California’s commitment to emission reduction and the escalating demand for allowances within the sector. The prospect of carbon allowance investing is intriguing due to the diversification potential it offers portfolios and the promising long-term prospects it presents.
KCCA represents a vehicle providing exposure to the California cap-and-trade carbon allowance program, one of the fastest-growing schemes globally. Its benchmark is set against the IHS Markit Carbon CCA Index, encompassing up to 15% of the cap-and-trade credits from Quebec’s market. Currently, the fund trades below both its 50-day and 200-day Simple Moving Averages (SMA).
The index gauges a portfolio of futures contracts related to carbon credits issued by the CCA. The fund operates via a wholly owned subsidiary in the Cayman Islands, alleviating the need for investors to grapple with a K-1 for tax compliance.
KCCA boasts a modest expense ratio of 0.78%.
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