CFTC Voluntary Carbon Market Convening

On July 19, the Commodity Futures Trading Commission (CFTC) held its second voluntary carbon market (VCM) convening. 

In his opening remarks, CFTC Chairman Rostin Behnam said that the VCMs are at a critical point in their development and growth.  He emphasized that the CFTC has an important policy responsibility to promote product innovation, price discovery, and liquidity for high-quality carbon credits that are the underlying commodity for derivatives products listed on CFTC-registered exchanges.  He said is the duty of the CFTC to prevent fraud and manipulation within these markets and support standards for high integrity and risk management, and he said that the CFTC will exercise the fullest extent of its enforcement authority. 

The CFTC will have a public comment period after this meeting to solicit input from industry and the public on VCMs.  Then, the CFTC will issue agency guidance for standards in these markets by the end of the year.  The CFTC will work to finalize this guidance by next spring or summer. 

Below is a summary of the meeting prepared by Delta Strategy Group. 

• Companies will need verified reduction certificates to meet net-zero global emissions standards by 2050.  As a consequence, we are seeing carbon offset credits rise in popularity.  The price of every offset is unique, but they are generally cheap.  There is an overabundance of carbon offset supply that is holding prices down from the levels they need to reach to find market balance.
• The value chain for carbon offsets needs better infrastructure and greater integrity.  Today’s structures incentivize investments in the cheaper offsets which will prevent funding from reaching the climate projects that would have the largest impact.  We need guidelines that support these growing markets and right the supply/demand imbalances that are keeping prices too low.

• We have received numerous allegations of fake credits, credits being used more than once, insufficient oversight in markets, and market manipulation.  CFTC has enforcement authority over spot markets, and it is crucial we continue monitoring the carbon markets as they evolve to prevent fraud.  We have the tools to prosecute fraud and manipulation, and we plan to exercise our jurisdiction to promote transparency within these emerging VCMs.  The new Environmental Fraud Task Force will be looking into these issues, and we hope that our request for whistleblower information will help us provide clarity in these markets.

Speakers: 

• Carol Petsonk, Assistant Secretary for Aviation and International Affairs, Department of Transportation 

• • Carbon offset credits have tremendous potential but pose significant risk.  The CFTC should exercise authority to prevent fraud and manipulation, but the integrity underlying the system is the most important measure to focus on.  Life cycle emissions in the transportation sector need to be regulated so their credits cannot be used multiple times. 
  • The Carbon Offsetting Reduction Scheme for International Aviation (CORSIA) will set a standard for requirements for its carbon offset program and also detail the requirements themselves.  Participation will be mandatory for all countries in 2027.  These credits cannot be double claimed.  The current low price of CORSIA credits is a result of lower emissions due to COVID.  We believe that these prices will rise in 2024 as more airlines need to purchase credits to offset higher emissions. 

• Sean Babington, Senior Advisor for Climate, Department of Agriculture 

• • USDA is focused on contributing incentive-based policy to drive attraction towards climate-smart practices.  A large part of this work comes in the form of rural development and projects in ag and forestry.  USDA Secretary Tom Vilsack has a keen interest in promoting sustainable aviation fuel as it benefits the climate as well as the ag and energy sectors.  Our authority is in providing incentives to farmers, but we have statutory authority to help producers participate in these new climate opportunities. 
  • USDA’s climate-smart commodities grant issued over $3 billion to nearly 150 projects over the last year.  The data from these projects will help us form standards and begin understanding how to properly incentivize participation in these markets.  The authorities provided in the Growing Climate Solutions Act and the SUSTAINS Act will help us in these goals. 

• Wilson Ervin, Counselor, Department of Treasury 

• • We have determined that there is a strong need for a standard around minimum quality.  We believe that there may be significant fraud taking place around nature-based offset credits.  In addition, we have received feedback that sourcing and review costs are too high, so we are looking into ways to improve access to carbon offset credits.  These markets are in urgent need of repair.  We believe that the Integrity Council for the Voluntary Carbon Markets (ICVCM) will play a large role in this work. 

• Molly Peter-Stanley, Negotiator, Department of State 

• • Robustness in the foundation of carbon crediting is critical to achieve Paris agreement goals in the long-run.   

Speakers:  

• Moderator: Dan Berkovitz, Former Commissioner, CFTC 

• • It is amazing how much has happened in the last few years in terms of standard setting and integrity in these markets.  That said, there is still a long way to go.  We need broad flexibility in standard setting to allow for accommodating new enforcement action based off of illicit behavior.  The importance of the spot market to the CFTC is beyond enforcement; spot markets are a significant aspect of price discovery and settlement for derivatives markets.  Derivatives markets can play a huge role in managing and reducing long term risks in these markets.   

• Russell Karas, Head of Commodities, Xpansiv 

• • We are the largest developer and provider of registration and market infrastructure for VCMs in the world.   
  • We have seen a massive increase in trading volume over the last several years.  Market activity has cooled in the short term since last year, but it still maintains a significantly positive long-term outlook.  The slowdown has come from macroeconomic headwinds and negative media coverage that has caused caution in some investors and market participants.  We are seeing an increasing number of firms being onboarded.  Firms are not exiting decarbonization strategies; they are taking time to thoughtfully execute these strategies by waiting to retire credits.  We are seeing prices start to rise back up over the past few weeks due to the fact that guidance is on the horizon. 
  • We believe that guidance from CORSIA, Voluntary Carbon Markets Integrity Initiative (VCMI), and Taskforce on Scaling Voluntary Carbon Markets (TSVCM) eligibility criteria will greatly benefit confidence in VCMs.  We also believe that the participants in this marketplace are becoming more educated with broader decarbonization strategies.  We believe that the growth of  rating agencies will also play a large role in giving additional project information to interested investors.  All of these growths will lead to better transparency and enhanced liquidity. 

• Daniel Scarbrough, President and COO, Incubex,  

• • VCMs represent new innovations and investments into markets that have been tried for years.  Advancements in protocols such as Verra and Gold Standard represent significant improvements to the transparency and integrity of these markets.  We developed the broadest suite of listed environmental futures and options contracts. 
  • It is vital to focus on building market best practices through access, transparency, neutrality, and trade efficiencies.  VCMs have been around for decades, and products are issued in accordance with the protocols of leading independent registries of the time.  The goal is to improve around the principles and structures of existing systems and tailor them for these more novel markets.  

• Julien Hall, Pricing Director, Climate Impact X 

• • We have tried to create a platform based on a prefunding market structure.  We have tightened the definition of deliverable within these contracts to ensure that they are based on large size markets, high trading activity, strong recognition, and an absence of non-standard project characteristics.  This means that very few deforestation projects are deliverable on our exchange.  We also have best practices in our governance of projects, prices, and benchmarks. 

• Thomas McMahon, Co-Founder and CEO, AirCarbon Exchange 

• • It is our belief that the CFTC has a critical role to play in overseeing all environmental markets, particularly voluntary carbon markets.  We have introduced the best principals from traditional commodity markets and new technology to ensure integrity for our marketplace.  We have also sought to be a fully regulated marketplace, which we have achieved in foreign jurisdictions such as Abu Dhabi.   
  • We believe that the CFTC’s role both in the U.S. and within IOSCO makes it ideal for regulating this space.  We are committed in eliminating the friction and opacity that has been inherent in VCMs.  We can change the nature of the exchange/registry relationship through smart contracts and extensive KYC protections.  We believe that these markets are developing in a similar way to the way energy markets did in the 1980s.  Markets will naturally converge between voluntary and compliance market deliverables.  We also believe that there will be a warehouse for credits that allows for borrowing and lending. 
  • There has always been a parent regulator in the background for commodity markets.  This asset class is currently parentless, and we believe that this needs to be addressed.  Regulators must be part of the growth of these markets, and we welcome the CFTC to take the lead role in the U.S. on this issue. 

• Corli Le Roux, Senior Specialists, United Nations Sustainable Stock Exchanges Initiative 

• • We have seen a growing exchange involvement across the carbon market value chain, and we are developing guidance that aims to support exchanges to strengthen or explore carbon market offerings.  Exchanges can engage in policy and stakeholder dialogue to promote integrity and they can maintain transparency and data access to create credible markets. 

Speakers: 

• Annette Nazareth, Senior Counsel, Davis Polk & Wardwell, Chair of the Integrity Counsel for the VCM 

• • Release 1, which detailed pro-carbon programs, was released at the end of March.  Release 2, which will detail the assessment framework for the carbon categories, will be released soon.  We want regulators’ authority in these markets to be modular. 

• Pedro Barata, Associate Vice President, Carbon Markets and Private Sector Decarbonization, Environmental Defense Fund 

• • We have an online scoring platform to promote due diligence for companies looking into carbon credits.  We would like assistance from other regulators in creating market integrity through price transparency. 

• Hugh Salway, Senior Director, Market Development and Partnerships, The Gold Standard Foundation 

• • While we need quality standards across the VCM to create market integrity, social integrity of these standards is equally important. 

• Robin Rix, Chief Legal Officer, Verra 

• • The CFTC should step in to address fraud and market manipulation.  This market has a lot of transparency, and there is too much information available to digest.   

• Flavia Rosembuj, Project Manager, Partnership for Market Implementation, Climate Change Group, World Bank 

• • We have tested a climate action data trust initiative which connects registry systems for carbon offset credits to provide transparency. 

• Samuel Gill, Co-Founder and President, Sylvera 

• • Lack of access to high-quality credits have posed market problems and it’s important we facilitate greater access to encourage corporate participation. 

• Ronan Carr, Chief Research Officer, BeZero Carbon 

• • Carbon ratings are tools we can use to express the quality of credits as it is harder to standardize these products in the currently fragmented market. 

• Bella Rozenberg, Senior Counsel, ISDA 

• • Standard documentation of trading will provide much needed consistency through the VCMs.   

Speakers: 

• Vincent McGonagle, Director, Division of Market Oversight, CFTC 

• • There have been a significant number of carbon credit products self-certified in the last few years, and they have gone through the same process as any other physical commodity product.  Derivatives markets need the price discovery of cash markets to function.  It is vital that we ensure that these markets are free from manipulation or fraud to ensure that this price discovery is taking place.  We should consider the best way to calculate deliverable supply. 

• Mike Kierstead, Head of Environmental Products, ICE 

• • Buyers of carbon credits need to have better navigation tools because these issues are complicated.  There is regulatory precedent with compliance markets that we need to draw from to appropriately regulate voluntary markets.  It will be nearly impossible to get to net-zero without robust voluntary carbon market.  Regulation will help differentiate these carbon markets from one another over the long-term.  There is great opportunity here for participants in exchanges to move VCMs forward with regulation. 

• Peter Keavey, Managing Director & Global Head of Energy & Environmental Products, CME Group 

• • There is strong interest to trade voluntary carbon futures across the globe.  We trade over six hundred contracts on a daily basis.  Voluntary carbon futures are new, but we have already seen robust interest from investors.  We have a diverse mix of participants including banks and trading houses.  In the VCMs, we have seen more hedging than we have speculation.  In breaking down a launch process for voluntary carbon futures, it is best if we treat them just like any other commodity futures product.  However, we do acknowledge there is a physical delivery complication.  We investigate the quality of any contract we list and ensure that they are consistent with core principles.   

• Caroline Gentry, Director of Environmental Markets, Nodal Exchange 

• • We believe in building markets long term and in the combination of synergetic elements.  There is a varying degree of quality in the market, but there are standardization initiatives going on that we believe will have a significant impact on the quality of credits. 

Discussion: 

Question: How do investors obtain market information when it seems like there is little transparency and markets can be confusing?  Russell Karas:  This information is available, but it is often project-specific.  VCMs are unique in their need to educate new market participants before they can effectively trade.  Investors need to be formally educated on how to filter information and find what is relevant.  There are still many different benchmarks and building a main benchmark will be vital to the growth of VCMs.   

Speakers: 

• Lorenzo Bernasconi, Head of Climate and Environmental Solutions, Lombard Odier Asset Management 

• • A robust carbon credit market will be vital to tackle the climate crisis.  An efficient derivatives market will lend credibility and benefit liquidity in carbon assets.  Derivative contracts must serve as catalysts in the markets.  Transparency is non-negotiable and contract specification and deliverables must match what is written on the label.   

• Tom Colebatch, Managing Director, Commodity Markets and Finance, Macquarie Group 

• • VCMs are at an inflection point, but clients are hesitant to engage due to a lack of clarity of standards.  Emission measurements are becoming more common, but companies need federally endorsed standards to feel comfortable utilizing offsets in their decarbonization plans. 

• John Battaglia, Managing Director/Global Head, Carbon Markets, BGC Environmental Brokerage Services 

• • Our goal as a global brokerage and leading financial technology firm in the markets is to be a facilitator of transactions by providing liquidity.  There is a lot of capital on the sidelines, but, because there is confusion around quality and lack of understanding of market standards, we are not reaching our full potential.   

• Dirk Forrister, President and CEO, International Emissions Trading Association 

• • VCMs have more than enough potential in carbon mitigation efforts, but they lack financing to bring everything to the table.  Markets thrive under standardized structures, and we will need oversight to provide a model. 

• David Tenny, President and CEO, National Alliance of Forest Owners 

• • The industry can provide accessibility to more data so regulators can make fact-based policy decisions.  Validate and recognize the good things regulators are doing.  We can spur investment in climate solutions if we engage stakeholders.   

• Todd Phillips, Fellow, Corporate Power, Roosevelt Institute 

• • Enforcement is the strongest power the CFTC can engage.  Setting nuanced standards is difficult to do now, because these markets are continuously evolving, and new projects are being introduced constantly.  The best thing that the CFTC can do is provide extensive enforcement to take bad actors out of markets. 

• Jonathan Goldberg, CEO, Carbon Direct 

• • Proliferation of standards is helpful but can also be confusing for the market.  The CFTC can take a larger role in the dissemination of data. 

• Kari Larsen, FIA 

• • Well-regulated markets will provide price discovery.  VCMs have grown exponentially, and FIA wants to facilitate this growth.  We need infrastructure and a greater degree of standardization to promote confidence.  We are confident that exchanges will deliver the derivative processes necessary to promote a robust carbon market.  We recommend CFTC coordinates with global jurisdictions, prioritize private sector growth in this market, and continue to listen to industry participants and stakeholders throughout the regulatory process.