Category: Sustainable Finance Lab Post

Addressing Impermanence Risk in the Voluntary Carbon Market

California Carbon Buffer Pool and Estimated Reversals













Source: CarbonPlan

Key Points: A new study of CA’s “insurance” for its carbon offsets highlights the rising risk for nature-based offsets of re-releasing CO2. This can help inform ICVCM’s recently launched push for higher standards in voluntary markets. It also supports our proposed “point” system for corporate disclosures, which devalues offsets, in part, on impermanence risk.

Study warns 100-year buffer to compensate for carbon reversal risks may be inadequate, particularly as a result of climate change. A CarbonPlan study released in early August concludes that California’s “insurance”, or buffer pool, of forest-project carbon offsets is not nearly large enough. The buffer pool is designed to compensate for release of CO2 back into the atmosphere (i.e., “reversal”) from the premature (< 100 years) demise of forests. The study’s assessment of each of the four categories of risk for which the buffer seeks to compensate (see Exhibit) varies in empiricism, yet it highlights the vulnerabilities of nature-based offsets to reversal. Climate change is exacerbating the natural and perhaps the financial and management risks. Please see summary comments of the study further down.

Integrity Council on Voluntary Carbon Markets (ICVCM) issues draft principles and protocols; ensuring adequate buffers for reversal risk is one element. In late July, the ICVCM issued its draft Core Carbon Principles and Assessment Framework and Procedures along with initiating a 60-day public consultation period. One of the 10 Core Carbon Principles is that the carbon storage must be either “permanent” or have measures in place to fully compensate if the offset is reversed prematurely. The Council accepts the use of buffer pools as an insurance mechanism for reversal; it simply notes that whatever mechanism must be robust enough (e.g. must have enough credits in the buffer pool) to fully compensate for it.

ICVCM sees a role for rating agencies and rating offsets; the Sustainable Finance Lab recommends taking it one step further. Separately, in its introduction of the public consultation period, the ICVCM welcomed the participation of public ratings agencies — and ratings for offset projects — to promote transparency. As the Sustainable Finance Lab has opined, we support taking a carbon offset rating system one step further. For the purposes of corporate reporting of offset purchases, we recommend allotting different amounts of “credit” per ton of CO2-equivalent based on each offset project’s rating. (The range of values could be 0-1, with a score of 1 reserved for permanent removal technologies; a project’s rating could be influenced by how conservatively offsets are created or the extent to which the offsets are reserved, similar to a buffer pool.) Thus, corporations buying offsets for the purposes of meeting decarbonization targets could only report an offset “value” commensurate with the independently-assessed climate (decarbonization) benefit.

CarbonPlan Study’s Buffer Pool analysis details. The buffer in the California forest offsets program (part of its Compliance Offset Program, see below) is comprised of offset “set-asides” — a portion of the offsets generated from forest management projects (which can actually come from across the U.S.). In different ways, the study concludes and/or warns that these reserves across the four categories of buffer pool offsets are either already “used up” or at risk:

  • Wildfires (19% of buffer pool). Since 2015 in California have likely already depleted the formal allotment of offsets to the Wildfire category (the blue section in the exhibit). Thus, the buffer that was intended to last 100 years appears to have been depleted in less than 10 (see blue bars in the Exhibit).
  • Disease & Insects (18%). The study estimates that even a single forest disease, “sudden oak death”, could result in enough tree mortality to use up more than the allotted offset buffer for the whole Disease & Insect category (orange bars).
  • Other (18%). The Other category is intended to include damage due to wind, flood, and ice. Yet the study notes that drought may prove to be more severely damaging (grey bar).
  • Financial & Management (44%). This relates to the non-natural risks to ongoing forest preservation/management, such as change in ownership. The study does not quantitatively assess if the allotment is adequate. Rather it notes that bankruptcy can discharge the liability for failing to perform and that separate studies of 100-year default probability point to higher rates of bankruptcy than is presumably provisioned for in the pool (yellow bar).

Background on the role of forest carbon offsets in California’s Cap-and-Trade program. In the California Cap-and-Trade Regulation that sets declining limits on Greenhouse Gas emissions for the state, the Compliance Offset Program offers use of carbon offset purchases to help entities meet a small portion (currently up to 4%) of their emissions obligations. Forests are one of six approved project areas for the Carbon Offset Program; the other project types are ozone depleting substances, livestock, mine methane capture, rice cultivation and urban forests.

Enviro Strength Within Soft 1H22 ESG Bond Issuance

Exhibit: Total ESG Bonds Issuance by Type, US$B, 1Q21 – 2Q22

Source: Environmental Finance

Key Points: Headlines noting large declines in ESG bond issuance in 1H22 vs. 1H21 obscure that environmentally-targeted issuance was resilient. Total ESG bond issuance in 1H22 fell 22% yr./yr. vs. a 13% decline for all bonds, but Green bonds + Sustainability-Linked bonds (2/3 of which have carbon emissions targets) fell only 6%, helped by 2Q22’s sequential bounce.

ESG bond issuance in 1H22 declines 22% yr./yr. to $441B on large declines in Social and Sustainability bonds. According to the Environmental Finance (E-F) database, Social bond issuance fell by 45% yr./yr. in 1H22 to US$81 Billion (B), Sustainability (defined as a combination of Green and Social activities) issuance fell 31% to $74B, Green issuance fell 10% to $239B and Sustainability-Linked issuance rose 22% to $46B (see Exhibit; some numbers may not match due to rounding).

Total ESG bond issuance in 1Q22 of $192B marked a low point vs. any quarter in 2021; 2Q22’s total of $249B reflected recovery in every sector except Sustainability-Linked.

Social bonds appear to have normalized following a Covid-19-driven spike in 1Q21 that had been driven largely from Supranational organizations. Supranational issuance declined 53% yr./yr. in 1H22 to $55B, followed by (government) agency issuance down 26% to $70B and Corporate issuance down 18% to $158B.

And Sustainability-Linked bond (SLB) issuance was just beginning to accelerate in 1Q21, making for an easier comparison for 1H22. Growth in SLBs in 2022 has also included sovereign issuance and some “relaxation” of the Key Performance Indicator (KPIs or targets) requirements.

Note, we are unsure the degree to which currency exchange rates affect reporting (e.g. we are unsure how much issuance is done in local currencies). To illustrate, Europe has dominated ESG bond issuance (was 46% of issuance in 1H22). The US Dollar (USD) vs. the Euro is 9% stronger thus far in 2022 than in 2021 and so currency translation into the stronger USD in 2022 lowers USD-stated values (i.e. further support the idea that there has been resiliency).

Data available upon request.




Methane Abatement’s Underfunding Problem

Exhibit 1: Sector Investment vs. GHG Emission Mitigation Potential

Source: Climate Policy Initiative (with input from Intergovernmental Panel on Climate Change)
Exhibit 2: % of Methane Abatement Finance vs. Methane Emissions by Sector

Source: Climate Policy Initiative (with input from the Community Emissions Data System)

Key Points: A CPI study highlights severe underfunding of methane abatement efforts ($11.6B vs. a required $110B per year) relative to methane’s impact on global warming (and commercial potential, at least in Oil & Gas). It calls on government to provide policy for methane emissions reduction and reporting and more fiscal incentives for private investment.  

Spending 1/10th of what is required for methane abatement. A study out this week by the Climate Policy Initiative on Methane Abatement Finance concludes that global spending of $11.6 Billion per year was spent on average in 2019 and 2020, approximately 10% of the total required for methane abatement to play its role in keeping global warming under 2ºC by 2050. Put differently, it cites that methane abatement spending comprised 2% of climate finance while it argues that methane emissions are responsible for almost ½ of global warming.

Significantly less spend per ton of CO2e abatement potential than other GHG abatement efforts. The study puts the underspend in context of other GHG emissions abatement efforts, using a ratio of investment flows ($B) to annual mitigation potential by 2030 (in Gigatons of CO2 equivalent). There was 12 times less $B/GtCO2e per year spent on methane abatement than in low carbon transport — a ratio of 3.9 $B/GtCO2e ($11.6B spend/3.0 GtCO2e per year mitigation potential) for methane abatement vs. 45.6 for low carbon transport (see Exhibit 1).

Within methane abatement spending, disproportionately less spending in the Oil & Gas sector. The study cites a mismatch between source of methane emissions and funding going to try to abate it. The waste and water sector accounts for 62% of tracked methane abatement finance but only 18% of methane emissions. On the other hand, the fossil fuel sector accounts for 1% of tracked spending but 41% of methane emissions (see Exhibit 2). With that said, the study acknowledges the very high likelihood of under-reporting of investment by fossil fuel companies and agriculture, forestry and land use (AFOLU) (as well as under-reporting of methane emissions).

Regulation and incentives to spur investment in fossil fuel methane abatement. The study acknowledges the significant momentum building within the fossil fuel sector towards methane abatement. This includes new commitments and regulations in OECD countries as well as voluntary steps by the sector, such as those adopted by signatories to the Oil & Gas Climate Initiative. Although it is often cited that capturing methane lost to leakage can pay for itself, the study correctly notes that incentives can be misaligned, either because the natural gas infrastructure isn’t in place or the owner of the equipment may not benefit directly from reducing leaks. Thus, it recommends a combination of additional regulation and incentives. The potential incentives cited include use of carbon offset credits; only 13% of the credits issued between 2015 and 2020 related to methane abatement, per the Berkeley Carbon Trading Project’s Voluntary Registry Offsets Database.

DAC’s Development Stages

U.S. DoE Standard and Accelerated Timelines In Its Regional DAC Hubs Program

Source: U.S. Department of Energy

Key Points: Announcements at the end of June highlight the varying technological readiness levels of Direct Air Capture (DAC). Frontier is supporting a diversity of nascent technologies, while Climeworks’ scaling effort is now underway. Meanwhile the U.S. DoE and Climeworks offer hints at potential “learning curve” benefits for capex over the next decade+.

Early stage DAC investments. Formed in April 2022, the Stripe-led Frontier fund raised $925 Million (MM) to be to Direct Air Capture (DAC). Frontier announced at the end of June that it is making early stage investments totaling $2.4MM in six DAC technology companies. Its investments are to take the form of Advanced Market Commitments (AMCs), i.e. it is committing to buy (initial) carbon removal from the companies; Frontier indicated it is paying $500 to $1,800 per ton of removal with this commitment (thus it is targeting to capture an implied +/-2,000 tons). Further, Frontier is offering $5.4MM in contingent payments to the six upon completion of certain milestones. Separately, Clean Energy Ventures announced a $3MM seed commitment to one of the six companies (Travertine), bringing announced potential funding to just under $11MM. In other words, the vast majority of the raised funds are to be spent, still through AMCs, only down the road to scale up construction of removal technologies once they have been validated.

Frontier’s DAC investments span several technologies. Frontier noted an encouraging diversity of prospective DAC technologies across 26 applications for funding. New technologies for the six selected companies include (1) new adsorbents for DAC systems (e.g.s include a AspiraDAC’s Metal-Organic Framework and Calcite-Origen’s slaked lime for calcination); (2) enhanced weathering techniques (e.g.s include Lithos’ basalt application to cropland and Travertine’s use of electrochemistry to produce sulfuric acid); and (3) synthetic biology (e.g. Living Carbon’s algae biopolymer).

Meanwhile also late last month, Climeworks breaks ground on a significant scaling up. The Frontier fundraise was the largest chunk of nearly $2B in carbon removal fund raises in April. Yet the second largest chunk, a $650MM raise for Climeworks, allows it to scale its existing technology. Related to the fundraise, Climeworks has broken ground on its Mammoth plant with capacity of 36,000 tons per year (tpy); intended startup is within 24 months. This follows the start up in September of last year of the company’s 4,000 tpy Orca plant.

U.S. Department of Energy initiated its $3.5 Billion Regional DAC Hubs program in May 2022. Funded under the Bipartisan Infrastructure Law, the program is authorized to spend the funds through 2026 to contribute to the development of four hubs with the capacity to capture (and sequester and/or utilize) at least 1MM tons each of CO2 per year. Costs are to be shared with the private sector, with the DoE picking up 80% in Phase 1 (feasibility) and 50% in Phases 2 and 3 (FEED through start of operation) (see Exhibit).

A vision to scale capex economies after 2030. Perhaps offering perspective relative to the implied cost of the DoE initiative, Climeworks, at its Direct Air Capture Summit at the end of June, estimated a need for $30-50B per year of capex, as well as customer (corporate) support in the form of long term offtake contracts, in order for the DAC industry to reach gigaton (i.e. one billion tons) annual scale capture by 2050. Acknowledging the math is very rough, if the DoE initiative points to capex of at least $1,750 per tpy of CO2 for the regional hubs ($7B+ divided by 4MM tpy), the Climeworks capex estimate suggests a learning curve benefit (after 2030) to potentially as low as $600 per tpy.

Decarbonizing the pulp and paper industry: A critical and systematic review of sociotechnical developments and policy options 6/30/2022

Decarbonizing the pulp and paper industry: A critical and systematic review of sociotechnical developments and policy options

Dylan Furszyfer Del Rio,  Benjamin K. Sovacool, Payne Institute Fellow Steve Griffiths, Payne Institute Director Morgan Bazilian, Jinsoo Kim, Aoife M. Foley, and David Rooney write about how paper has shaped society for centuries and is considered one of humanity’s most important inventions. However, pulp and paper products can be damaging to social and natural systems along their lifecycle of material extraction, processing, transportation, and waste handling. The pulp and paper industry is among the top five most energy-intensive industries globally and is the fourth largest industrial energy user. June 30, 2022. 

Benchmark Introduced for Voluntary Carbon Offset Credits

Stylized Construction of the GER Over Time

Source: NetZero Markets

Key Points: An effort to bring liquidity and transparency to voluntary carbon offset credits, known as the GER, was introduced June 17. The GER is a composite and as such, creates a way for a company to easily buy offsets that are “as good as industry average” over time; it doesn’t address criticisms about offset quality.

Introducing the Global Emission Reduction (GER) contract. A GER is a composite instrument, comprised of a weighted average of four “buckets” of offset credit types currently traded on Voluntary Carbon Markets (VCMs):

  • Base Carbon Credit (BCC); emissions avoidance, consisting of renewables and energy efficiency projects
  • Forestry Carbon Credit (FCC); emissions avoidance, consisting of Land Use, Land Use Change and Forestry projects
  • Prime Carbon Credit (PCC); emissions avoidance, with projects that have other benefits such as contributing to the UN’s Sustainable Development Goals
  • Carbon Capture Credit (CCC); emissions removal, to include CCS and Direct Air Capture projects

Recent trading in VCMs have demonstrated differentiation by price across these project buckets, with CCCs the most expensive and BCCs the least. Early trading in GERs settled at $7.23 to $7.70 per contract.

The GER functions as follows: carbon credits representing each of the four buckets are bought and “retired” — retiring credits ensures that the carbon benefit is only “used” once and cannot be resold. A GER is then issued as a new instrument underpinned by those retired credits. The details of contributing credits (i.e. the projects) are transparent to buyers, addressing a criticism regarding the opacity of current VCMs.

The representation in a GER from each of the four buckets is based on the volume of trading in each over time. Thus, GERs intend to reflect the market and reflect “an average” offset. Currently, the GER’s mix is approximately 45% BCC, 1/3 FCC, 20% PCC and 1% CCC (see Exhibit).

As an intended industry benchmark, a GER does not have its own inclusion standards for projects and instead accepts all established verifying agency practices and all offset types that are currently traded. (This differs from some others’ products, which seek to offer a portfolio of higher quality offsets, see discussion about quality in the explainer below.)

­­­Over time, GER mix is expected to first include more FCC and gradually, as removal activity grows, to be entirely comprised of CCC (see Exhibit) (again this reflects how the offset markets are expected to evolve). This transition to all CCC is consistent with the Oxford Principles for Net Zero Aligned Carbon Offsetting, which excludes emission avoidance offsets by 2050.

The GER contracts are being administered by NetZero Markets, which has partnered with exchanges AirCarbon Exchange (for spot contracts) and European Energy Exchange (EEX) and Nodal (both for futures contracts).

Carbon offset credits explained. A carbon credit offset is a certificate that one ton of CO2 is not being emitted to the atmosphere. The certificate is issued by a verifying agency for approved types of projects that conform to established practices. The certificates can then be sold to buyers seeking to offset their own carbon emissions to meet emission reduction goals. Proceeds from the sale of the offsets go to the project developer to help provide financial incentive for the project (as well as to market makers). As suggested above, the most common project types include those related to construction of renewable energy and investments in energy efficiency and land use (such as preserving forests such that they continue to absorb CO2).

Carbon offsets have been criticized for exaggerated claims of contributing to climate mitigation. A key feature of this criticism is an idea known as “additionality.” If a project works on its own economic merits, then that project should not qualify for carbon offset credits because the project developer would have executed on the project anyway. One example of this is developing solar or wind-based energy; since the cost of generating electricity with RE is often lower than that of generating it with fossil fuels, such projects make economic sense and thus shouldn’t also receive support from offset credits.

A separate criticism is that carbon offsets hinder global carbon emissions reduction efforts. This stems from the view that offsets are a cheaper and easier way for corporations to represent that they have lowered their carbon footprint vs. changing (investing in) their own operations. Emerging best practices encourage that companies only use offsets to address the portion of emissions that they cannot reduce “organically” (i.e. by their own actions).

US DOE Clean Energy Spending Momentum

US DOE Clean Energy Spending Momentum
Key Points: In early June, the U.S. Department of Energy announced programs to progress potentially $9+ Billion in clean energy spending: $8B from the Bipartisan Infrastructure Law for regional H2 hubs, a $0.5B loan guarantee for storage in Utah and Defense Production Act authorization that is targeting clean energy/energy efficiency production capacity.

Regional H2 Hubs: announcement that the bidding process is to begin this Fall. The Bipartisan Infrastructure Law authorized $8 Billion (B) in spending over the next five years for at least four regional H2 hubs — networks of clean hydrogen producers, consumers and connecting infrastructure. In early June, the Department of Energy (DoE) announced a Notice of Intent to issue the related Funding Opportunity Announcement; that FOA is expected by October 2022. Industry analysts have stressed the view that hub selection will be heavily dependent on confidence in customers and transportability. States are positioning for the bidding process. For example, Wyoming signed an agreement earlier this year with Utah, New Mexico and Colorado to propose a H2 hub region (with one customer the Intermountain Power Agency as discussed below).

Loan Guarantee for clean energy storage. The DoE announced closure of a $504 Million loan guarantee for the Advanced Clean Energy Storage project in Delta, Utah (this follows conditional approval announced in April). The 220 MW project is to take excess renewable energy-based electrical capacity and produce green hydrogen (via alkaline electrolysis) to be stored in salt caverns (9 Million barrels of capacity) for use during the year when needed. The hydrogen is to be used by the Intermountain Power Agency’s IPP Renewed Project, which is replacing a coal fired power plant with a hybrid Combined Cycle Gas Turbine capable of operating on hydrogen fuel (up to 30% upon startup in 2025e and transitioning to 100% by 2045). After this loan guarantee, the DoE has $2.5B in remaining loan guarantee authority in its Innovative Clean Energy project program.

Defense Production Act for clean energy production capacity. Finally, the DoE also announced in early June it had been given authorization to use the Defense Production Act to accelerate production of five technologies: (1) solar; (2) transformers and electric grid components; (3) heat pumps; (4) insulation; and (5) electrolyzers, fuel cells, and platinum group metals. The DoE’s announcement suggests that it is engaging with industry, labor and community representatives to develop specific investment/spending plans. DPA commitments can take the form of capital investment (support) or advanced purchase commitments by the government, which can be redistributed to the private sector or households, etc.

Voluntary Carbon Markets’ Uneasy Start With Blockchain

Retirement Demand 4Q21-1Q22 for Verra Project Credits, by Year (Millions of Tonnes)

Source: Carbon Direct (data from the Berkely Voluntary Registry Offsets Database)

Key Points: A new report, from Carbon Direct, concludes that blockchain-based buying of carbon offsets has had lower quality standards than traditional buyers (i.e. corporates), which bear more direct reputational risk. Meanwhile Verra is seeking to ensure transparency and bolster the perceived climate integrity of Blockchain tokens.

Blockchain-based demand emerges as relevant portion of traded credits. Per Carbon Direct, which analyzed trades on the Verified Carbon Standard (VCS) registry, Blockchain-based (digital) purchases accounted for 29% of the carbon credits that were retired in the six months of 4Q21-1Q22. (Note that Blockchain-based trades were a much smaller share of the total market as approximately 70% of trades in 2021 on the VCS registry were not retired. Non-retirement purchases are motivated by brokers, investor/speculators and corporates purchasing for planned commitments.)

Blockchain-traded credits perceived to be of lower quality. Versus traditional buyers, the mix of credits purchased digitally on the VCS over that six month period skewed to more renewable energy credits — 64% in the digital pool vs. 37% in the traditional — and to older credits — modes of 2009 and 2013 in the digital pool vs. 2015 and 2019 in the traditional (see chart).

Renewable Energy project-based credits have been criticized for often not being “additional,” as in the projects would have been viable economically without the credits and thus there was no additional climate benefit. Verra, the verifying agency behind VCS, for example, spoke to this issue when, in 2019, it limited credits for Renewable Energy projects to least-developed countries. Related to some degree, older projects are viewed as often having lower standards than newer ones.

Report argues that blockchain can be less discriminating. Carbon Direct argues that blockchain fosters “a willingness to commingle carbon sourced from a wide spectrum of project types” and that token holders have the incentive to grow and that there are “few restrictions on accepted credit project types.” By implication, corporates may feel more scrutinized in the nature of the credits they buy, and thus Carbon Direct implies some hope that (some of the) lower quality credits would not have been purchased. That said, corporates do not face regulatory constraints, nor is it mandated that they provide detail about the purchases, and as such develop their own sense of constraint based on perceived reputational risk.

Verra puts a restriction on; will seek public comment on working in other ways with crypto. In late May, Verra announced that it will prohibit the creation of tokens based on retired credits, an apparent move to shore up perceptions of integrity (so there aren’t two payments tied to one environmental benefit). It also indicated that it will engage in public consultation for its ongoing interaction with blockchain-based transactions, including to ensure adequate traceability and transparency.

Details about the VCS registry and Toucan Protocol. The Toucan Protocol “bridges” VCS credits to Blockchain, where the credit forms the basis for a fungible token. When users bridge these credits, they are retired on the VCS registry. Toucan, which launched in October 2021, comprised 94% of “on-chain” purchasing on the VCS registry in 4Q21-1Q22.

Voluntary Carbon Market Differentiating by Type of Offset

Price Trend by Type of Carbon credit, 1Q21 – 1Q22

Source: S&P Global via The World Bank (Report: State and Trends of Carbon Pricing, published May 2022)

Key points: The World Bank’s carbon pricing report includes an update on voluntary carbon markets (VCMs). Price differentiation of carbon offset credits shows preference for carbon removal activities. Demand for nature-based credits is also benefitting from buyers’ focus on co-benefits; and growing demand and market maturity bode well for higher prices.

World Bank report on Carbon Pricing. The World Bank (WB)’s State and Trends of Carbon Pricing report published this week includes discussion of global carbon pricing instruments, both taxes and trading systems, and the outlook and implications of new policy and agreements coming out of COP26. Among the key takeaways from the report is that global carbon pricing revenue increased 60% in 2021 to US$84 Billion, with emissions trading systems generating more than carbon taxes for the first time. The report also includes a review of voluntary carbon market trends, prospects and issues related to future growth.

Nature-based credits dominate VCM value in 2021. As noted in a previous Payne Financial Flow, Forestry and Land-Use credits comprised nearly 80% of the estimated US$1+ Billion VCMs’ value in 2021 (data as compiled by EcoSystems Marketplace remains unfinalized; our estimate reflects compiled data through November). This category of nature-based credits is largely comprised of projects to avoid deforestation, but includes some removal-type projects as well including afforestation, carbon sequestration in agriculture and improved forest management. The WB report notes that as demand grows overall, as there are more buyers adopting decarbonization targets and relying on offsets to meet milestones, some of these buyers are putting value on co-benefits of projects. Co-benefits can include achieving one or more of the Sustainable Development Goals.

However, removal-based credits command a higher price. The WB report cites S&P Global analysis pointing to removal-based credits trading at 2.5x the average price of reduction/avoidance-based credits in 4Q21-1Q22 (see chart). This stronger price appears to reflect buyers’ (1) desire to comply with Net Zero strategies (i.e. buyers view that credits related to projects that (only) avoid emissions don’t offset their internally-generated emissions) and (2) views of the potential for removal technologies. Removal technologies also avoid, as the WB report puts it, the  “polarized debates regarding additionality, permanence and baseline accuracy” of Forest and Land-Use credits.

Further, removal-based credits are in short supply, in part because of the non-commercialized state of removal technology (such as Direct Air Capture) and slow development of sequestration projects. Financial sponsorship of removal technologies is also happening outside of marketplaces and rather through direct investment.

Market maturity points to greater liquidity. The report notes several signs that VCMs are maturing, including that (1) financial actors are stepping in to provide capital and to hedge risk, (2) standardized transactions are growing more common and (3) there are signs of speculative (i.e. non-strategic) buying. The report also notes the role that Blockchain is starting to play in tokenization of carbon credits to increase buyer access and highlights the potential issues this creates related to integrity (see here for a brief review of technology’s role in spurring greater environmental investment).

Regulator Declines to “Bless” Certified Natural Gas Given Varying Standards

Expected Daily Volume of Responsibly-Sourced/Certified Natural Gas by Basin, End-2022e
Source: S&P Global

Key Points: The FERC’s recent rejection of Tennessee Gas Pipeline’s proposal to sell responsibly sourced/certified natural gas highlights the value in establishing (robust) measurement standards. Market-wise, TGP’s more recent proposal, which allows unbundling certification from the product, makes more sense than the company’s original physical (hub)-based plan.

The FERC rejects proposal to sell responsibly sourced gas. At the end of April, the Federal Energy Regulatory Commission (FERC) rejected Kinder Morgan subsidiary Tennessee Gas Pipeline (TGP)’s proposal to sell natural gas that is below a threshold for methane intensity. The FERC begged off taking responsibility for what constitutes so-called responsibly-sourced gas (RSG), noting that the market was nascent, that different standards were being set by different independent vendors and that methane emissions are unregulated (see more below).

Evolution of TGP’s proposal. TGP’s original proposal was based on a physically traded hub market, i.e. that the pipeline would source gas that had been certified as meeting methane intensity criteria. That proposal was met with protest from gas producers that had not pursued certified gas, that would be excluded from selling through the pipeline.

In response, TGP shifted its proposal to a “certification-based” market, which allows for the unbundling of the certification of methane intensity from the physical product. In other words, similar to Renewable Energy Credits in power markets, the natural gas sold through the pipeline could be sold separately from the methane intensity certificate for that gas, thereby allowing buyers other than those using the gas. TGP’s proposed gas “certifiers” included Project Canary (Trustwell Responsible Gas program), RMI/SYSTEMIQ (MiQ Standard) and Xpanisv (which in turn can use third party certification providers). Accentuating the FERC’s key objection, the third party certifiers have different methodologies/standards for certification, including frequency of monitoring. TGP’s revised proposal also met with objections, in this case that TGP would be too influential in determining what qualifies as certified gas.

Thus the pipeline company proposed to place criteria for RSG in its tariff, placing responsibility on the FERC. In rejecting this last proposal, the FERC indicated it was unclear how to evaluate TGP’s criteria given lack of Federal regulation on methane emissions and lack of standards in the industry.

The FERC further cited the risk that TGP’s tariff structure as proposed might stifle market-driven efforts to further reduce methane emissions. In other words, if the tariff only rewarded meeting a threshold, gas producers may lack the incentive to deliver even lower methane intensive gas. Other certificate schemes have incorporated such incentives — for example, the S&P Platt’s/Xpansiv’s recently introduced Methane Performance Certificate uses percentage-below-industry-average as a metric (issuing more certificates for natural gas with emissions further below industry average).

The FERC’s ruling was reported to have been positioned such that it is expected that TGP sorts out a way to proceed with its RSG plan. But the FERC’s point about varying standards reflects the challenge for buyers (and everyone else) in assessing the “true” methane intensity of the certificates and (therefore) of price discovery. This highlights the value in having a set of standards regarding ongoing measurement (frequency, number of points on site, nature of monitoring, etc.).

U.S. RSG market appears set to grow to 20 Bcfd. S&P Global reports that ~20 Billion cubic feet per day of U.S. natural gas production, or 21% of the U.S.’s total dry gas production, is set to have third party certification by the end of 2022 (see chart).