Australian carbon hedging limited until climate policy law

SYDNEY (Reuters) - Australia's government is confident parliament will pass its carbon tax scheme within months, but financial institutions and carbon traders say the risk of it again being rejected will leave firms reluctant to hedge by buying carbon offset units.

However, high carbon emitting Australian firms that also operate in the EU and New Zealand, where trading schemes already exist, may seek to purchase additional carbon emission reduction units (CERs) as they could use them offshore if the Australian scheme does not materialize, said traders.

If the Australian parliament approves the carbon scheme it could usher in the second-largest carbon scheme outside Europe's $120 billion a year program that began in 2005.

But Australia's Labor government twice failed in 2009 to have parliament approve an earlier carbon trading scheme and although the current government has the backing of key Green and independent MPs, the previous failures are well remembered.

"There is a risk it won't pass. We have been close to a deal before and it's fallen over," said Connell Burke, head of Australian Power Trading at Westpac Banking Corp.

"I would not think anyone will jump into doing that (hedging by buying carbon credits) prior to legislation," said Burke, adding some Australian power generators were left holding CERs in 2009 when the last carbon scheme was rejected.

Australian Prime Minister Julia Gillard on Sunday unveiled her long-awaited climate policy which will see 500 big polluting firms pay a A$23 a metric ton carbon tax from mid-2012.

The carbon tax will rise by 2.5 percent a year before moving to a market-based trading scheme in 2015. The scheme aims to cut emissions by 5 percent of 2000 levels by 2020.

Under the scheme, international carbon credits will be recognized from the start of emissions trading, but their import will be limited to the equivalent of half of national emissions.

Eligible credits include certified emission reductions (CERs) and emission reduction units (ERUs) and removal units (RMUs). Carbon credits are traded in the EU and New Zealand emissions trading markets.

OFFSHORE CREDITS ATTRACTIVE

Carbon traders said some Australian firms may be tempted to buy CER carbon credits now for around 10 euros a metric ton and bank them for three years, given the government expects local emission permits to be double that price in 2015.

"A lot of the banks are out there looking at that as a trading opportunity," said Nicholas Armstrong, chief executive of trading firm COzero. Spot CERs prices have fallen by about 24 percent since hitting a high of 13.51 euros in May.

Geoff Rousel, head of carbon trading at Westpac bank, said it would be a better bet for multinationals already operating in emissions-trading schemes such as in Europe and New Zealand.

"With CERs being an international Kyoto unit, they will have an out (if the Australian policy fails)," said Rousel.

But carbon dealer Daniel Crawford, at brokerage OMFinancial in New Zealand, said that despite the attractiveness of offshore carbon credits, given the high Australian dollar and low price of CERs, he expected little immediate Australian hedging.

"Political uncertainty would be the big risk for them, and I don't see them hedging dramatically yet. They'll want to see some follow-through and see the policy put in place," he said.

"When they see certainty that the scheme will stay, then we'll see some hedging."

PASSING ON CARBON COSTS

Australia's coal miners, steel firms, airlines and power firms will be the hardest hit by the carbon tax and some have already said they will simply pass on the price to customers.

Australian airline Qantas said the carbon tax will cost it an estimated A$110 million to A$115 million, while Virgin Australia estimated an impact of A$45 million in 2013. Both said they will pass on the cost by hiking airfares.

Australia's power sector has developed carbon pass-through contracts which will simply add the carbon price to negotiated electricity contracts.

"The electricity market has put in very specific pass-through mechanisms to reduce a lot of that risk," said Westpac's Burke, who specializes in the power sector.

Australia's Carbon Farming Initiative, which the government is hoping will be passed by parliament in August, is set to be the world's first nationally legislated market for carbon credits from farm projects, such as tree plantations and controlling emissions from livestock.

Carbon Conscious, develops Australian forestry plantations for carbon credits, and already holds A$45 million in contracts with clients like Origin Energy and the Singapore unit of BP Plc.

"Trees provide a lot longer hedging strategy. Trees delivery a stream of carbon over a 15-year period. There is no real way of hedging your liability out 15 years with a financial instrument," said Carbon Conscious chief Peter Balsarini.

Long-term carbon hedging is attractive to power generators and mining firms as they hold long-term investment assets.

Balsarini believes that an additional $190 million in Carbon Conscious options are more likely to be exercised over the next three years following the release of the carbon policy.

But Balsarini said carbon emitting firms will most likely look at a mixture of hedging options, depending on their "carbon price curve" calculations.

(Additional reporting by Mark Bendeich in Sydney, Adrian Bathgate in Wellington; Editing by Ed Lane)