4 green trends to watch in the financial markets

Khanchit Khirisutchalual/iStock via Getty Images

By Payal Shah

In short

  • Investor demand for ESG products has led equity index providers to ensure that their indices reflect the overall trajectory of ESG.
  • Demand for cobalt and lithium surged as electricity car sales have more than doubled between 2020 and 2021.

Earth Day 2022 followed a report months earlier by the Intergovernmental Panel on Climate Change (IPCC) which warned that global temperatures could rise by more than 2°C during the 21st century. This, combined with the agreement signed at COP26 in November 2021, shows the scale of the climate challenge.

Several trends in financial markets show a growing awareness of the need for environmentally sustainable solutions. Here are four areas that merit closer examination: ESG solutions in stock index markets, the evolution of the biofuels market, a thriving market for battery metals fueled by electric cars, and the growth of the voluntary market for carbon offsetting.

ESG equity index

As the environmental, social and governance (“ESG”) ecosystem evolves, ESG investments must keep pace to continue to provide robust solutions to market participants. In the realm of equities, this development translates into index providers ensuring that their indices reflect the overall trajectory of ESG investing.

Underpinning this ESG development is phenomenal growth in ESG investing, including derivatives, such as CME Group’s E-mini S&P 500 ESG Index Futures, which became the ESG Index Futures the most liquid in the world.

To further align with the rapidly changing ESG landscape, the S&P Dow Jones Indices (S&P DJI) will change the eligibility requirements for their ESG indices from May 2022.

Updates to exclusions and eligibility criteria reflect the growing need for index providers to properly account for the commercial activities of companies, ultimately ensuring ESG investors are accurately assessing the behavior of these companies within the index.

Recent trends in E-mini S&P 500 ESG Index futures illustrate how investors can find solutions that meet their ESG needs. The average daily volume (ADV) of ESG futures contracts has already increased by more than 100% in 2022 and has been growing steadily since the contract was launched.

S&P ESG

Since their launch in November 2019, ESG futures contracts have exceeded $94 billion in notional traded and as of mid-April 2022, they have surpassed 13,500 open interest contracts, or almost $3 billion.

ESGM2

The rise of electric vehicles

With the help of advanced technology and electric vehicles (EVs) which continue to increase their share of the global automotive market, it seems clear that cobalt and lithium are essential to meet the growing demand for EVs and satisfy the large-scale efforts to shift from internal combustion engines to battery-powered transportation.

According to the International Energy Agency (IEA), sales of electric cars have more than doubled between 2020 and 2021. A total of 6.6 million electric vehicles were sold last year, almost 10% of the world market. China is the largest market for electric vehicles, with sales up 179% to 3.4 million new car registrations and overtaking Europe at 2.3 million units (+64% increase). one year to the next). Although smaller than China or Europe, the U.S. EV market also showed strong growth, growing 123% year-over-year to reach 700,000 units.

EV sales

OUCH

In a broader context, higher penetration of electric vehicles is part of the transition to a low-carbon economy. This transition is accelerating as world leaders sign up to emission reduction and net zero goals. As has been widely commented, decarbonizing transport and power generation will require a significant amount of metal, – aluminum, copper, nickel, cobalt and lithium are all expected to be in high demand.

The IEA estimates that demand for lithium could grow forty-fold in 20 years, and demand for cobalt by a factor of 20 to 25, if governments around the world are serious about meeting the goals set out in the Paris Agreement. There is a level of uncertainty around the exact growth rates – as they are influenced by changing technology as well as government climate policies – but it is difficult to imagine a scenario in which the cobalt and lithium would not develop to adapt to the energy transition.

CME Group offers cobalt and lithium futures contracts. With demand growing rapidly, prices for both contracts increased. Cobalt is now trading at $34/kg, more than double the level it was at when it launched in December 2020. Lithium prices have risen even faster, rising from $13/kg in May 2021 to more $40 in February 2022.

Cobalt

Growing use of bioenergy

The growth of bioenergy is set to become a more prominent feature of markets as economies seek to further decarbonise. In the European Union (EU), the recently expanded Renewable Energy Directive II (RED II) is boosting the use of both biofuel feedstocks and waste feedstocks. The EU has targeted a minimum level of 40% share for renewable energy sources by 2030, up from 32% in previous versions of the directive. The EU has also pledged to cut greenhouse gas emissions by 55% by 2030. These tougher targets are expected to boost bioenergy markets.

The United States is also leading the charge in renewable diesel production. These initiatives are expected to draw more on the agricultural feedstock supply and waste markets that will be needed to meet projected growth in the production of renewable diesel in the United States and hydrotreated vegetable oil (HVO) in Europe.

The rise of voluntary carbon markets

The strong demand for voluntary carbon markets continues, in part due to commitments by companies to reduce their carbon footprint to help achieve net-zero carbon emissions targets by 2050.

In 2021, CME Group launched the future Global Emission Offset (GEO). A record volume of 1,810 contracts (the equivalent of 1.81 million carbon credits) was reached on March 10. The Nature based Carbon Offset (NGO) futures contract traded a record 4,277 contracts or 4.27 million carbon credits a week later on March 16.

ING Bank estimates that growth in demand for voluntary offsets could increase 15 times 2020 levels by 2030 and 100 times 2020 levels by 2050. As interest grows, this will remain a market to watch.

GEO NGEO

In all of these markets – equities, biofuels, metals and carbon offsets – we see market participants dealing with risk around an evolving 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 how nearly every market is impacted by environmental concerns.

Original post

Editor’s note: The summary bullet points for this article were chosen by the Seeking Alpha editors.