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What Sustainability Trends Are Traders Watching?

by WOOWinvest
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What Sustainability Trends Are Traders Watching?


Earth Day 2022 follows a report released a few months ago by the Intergovernmental Panel on Climate Change (IPCC), which warned that global temperatures could rise by more than 2°C. In the 21st century. This, along with the agreement signed at COP26 in November 2021, shows the magnitude of the climate challenge.

Several trends in financial markets point to a growing awareness of the need for environmentally sustainable solutions. Here are four areas worth taking a closer look at: ESG solutions in the stock index market, the changing biofuel market, the booming battery metals market driven by electric vehicles, and the growth of the voluntary carbon offset market.

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ESG Equity Indices

As the Environmental, Social and Governance (ESG) ecosystem grows, ESG investing must keep pace with robust solutions for market participants. In equities, this evolution translates to index providers ensuring that their indices reflect the overall trajectory of ESG investing.

Behind the evolution of ESG is a huge increase in ESG investing, including derivatives such as CME Group’s E-mini S&P 500 ESG Index futures, which have become the most liquid ESG stock index futures contracts in the world.

To further adapt to the rapidly evolving ESG landscape, S&P Dow Jones Indices (S&P DJI) will revise the eligibility requirements for its ESG indices starting in May 2022. The updates to exclusions and eligibility requirements reflect the growing need for index providers to properly consider companies’ business activities, ultimately ensuring that ESG investors can accurately assess the behavior of these companies within the index.

Recent trends in the E-mini S&P 500 ESG Index futures illustrate how investors can find solutions that fit their ESG needs. The average daily volume of ESG futures has grown by more than 100% through 2022 and has been increasing steadily since the contract was launched.

Chart: E-mini S&P 500 ESG Futures Quarterly ADV and Open Interest Since Launch

Since its launch in November 2019, ESG futures contracts have surpassed $94 billion in notional volume, and by mid-April 2022, there were more than 13,500 open contracts, equivalent to nearly $3 billion.

The rise of electric vehicles

With the help of advanced technologies and electric vehicles (EVs) continuing to increase their share of the global automotive market, it is clear that cobalt and lithium will be critical to meeting the growing demand for electric vehicles and meeting the large-scale efforts to move away from internal combustion engines to battery-powered transportation tool.

Electric vehicle sales have more than doubled between 2020 and 2021, according to the International Energy Agency (IEA). A total of 6.6 million electric vehicles were sold last year, accounting for nearly 10 percent of the global market. China is the largest EV market, with new vehicle registrations up 179% to 3.4 million, surpassing Europe at 2.3 million (up 64% year-on-year). While the U.S. EV market is smaller than China or Europe, it also showed strong growth, up 123% year over year to 700,000 units.

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Chart: Global Sales and Market Share of Electric Vehicles

Chart: Global Sales and Market Share of Electric Vehicles

From a broader perspective, higher EV penetration is part of the transition to a low-carbon economy. The shift is picking up pace as world leaders sign off on emissions reductions and net-zero targets. As has been widely commented, decarbonisation of transport and energy production will require large amounts of metals – aluminium, copper, nickel, cobalt and lithium should all be in high demand.

The IEA estimates that demand for lithium could increase by a factor of 40 in 20 years, while demand for cobalt will increase by a factor of 20-25. If governments around the world are serious about achieving the goals set out in the Paris Agreement. There is a degree of uncertainty about the exact growth rates – as these are influenced by evolving technology and government climate policy – but it is hard to imagine a scenario in which the cobalt and lithium markets will not grow to accommodate the energy transition.

CME Group offers cobalt and lithium futures trading. With the rapid increase in demand, the prices of both contracts have an upward trend. Cobalt is now trading at $34/kg, more than double what it was when it was launched in December 2020. Lithium prices rose even faster, from $13/kg in May 2021 to over $40 in February 2022.

Chart: CME Group Cobalt and Lithium Futures Trading Volume

Chart: CME Group Cobalt and Lithium Futures Trading Volume

Increased use of bioenergy

Growth in bioenergy is expected to be a bigger feature of the market as economies seek to further decarbonize. In the European Union (EU), the recently expanded Renewable Energy Directive II (RED II) promotes the further use of biofuel feedstocks and waste feedstocks. The EU aims to increase the minimum share of renewable energy to 40% by 2030, up from 32% in previous iterations of the directive. The EU has also committed to reducing greenhouse gas emissions by 55% by 2030. These stricter targets are expected to boost the bioenergy market.

The U.S. is also leading the way in the production of renewable diesel. These moves are expected to further boost the supply of agricultural-based feedstocks and waste-based markets, which will be necessary to meet U.S. renewable diesel and European hydrotreated vegetable oil (HVO) production growth forecasts.

The rise of voluntary carbon markets

Strong demand for voluntary carbon markets persists, driven in part by corporate commitments to reduce carbon footprints to help achieve net-zero carbon emissions targets by 2050. In 2021, CME Group launches the Future of Global Emissions Offset (GEO). March 10 set a trading volume record of 1,810 contracts (equivalent to 1.81 million carbon credits). Nature-based carbon offset (NGO) futures contracts traded a record 4,277 contracts or 4.27 million carbon credits a week later on March 16. ING Bank estimates that growth in voluntary offset demand could increase 15 times from 2020 levels by 2030 and 100 times from 2020 levels by 2050. This will remain a market to watch as interest grows.

Chart: GEO and N-GEO total open interest

Chart: GEO and N-GEO total open interest

In all of these markets – equities, biofuels, metals and carbon offsets – we see market participants responding to risks around a changing set of climate challenges. New tools have emerged to help manage these risks across multiple asset classes. This not only shows a strong demand for risk management solutions, but also that almost all markets are affected by environmental concerns.

Read more articles like this at OpenMarkets

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