Witching hour returns

What chance a repeat of the late 2021 EUA price surge?

“History does not repeat itself, but it often rhymes” - often attributed to Mark Twain

Options activity was a powerful force propelling EU carbon prices to €90 per tonne late in 2021.

Carbon traders had accumulated a huge numbers of call option contracts that gave them the right to buy carbon at a particular price and time: €70, €80, €90 per tonne and so on.

Bullish fundamentals underpinned a tight energy complex: below average temperatures in Northern Europe supported heating demand, coupled with unseasonably low wind generation and it meant there was increased demand for thermal coal generation.

As carbon futures prices rose toward the value of the call option contracts, banks and other financial institutions that sold them found themselves on the wrong side of the trade. The only way to protect themselves was by going long and buying the underlying futures contracts.

As they did, they created a vicious circle where carbon prices rose, banks in turn had to buy more futures contracts, which then triggered fresh price rises, which then commanded more buying. The options ‘tail’ was wagging the futures ‘dog’.

Could the same phenomenon be happening this year?