The European Union Emissions Trading System

The EU ETS has evolved through several phases:

• Phase 1 (2005-2007): A pilot phase to establish the carbon market, covering only CO₂ emissions from power and heat generation and a few energy-intensive industrial sectors.
• Phase 2 (2008-2012): Coinciding with the first commitment period of the Kyoto Protocol, this phase expanded coverage and introduced a more robust monitoring, reporting, and verification system.
• Phase 3 (2013-2020): Significant reforms were made, including a single EU-wide cap on emissions, auctioning of allowances as the default method of allocation, and broader sector coverage.
• Phase 4 (2012-2030): Focuses on achieving the EU's target of a 55% reduction in emissions by 2030 compared to 1990 levels, with further tightening of the cap and increased use of auctioning.

Emission allowances are permits that allow a company to emit a specific amount of greenhouse gases. They are a central component of cap-and-trade systems designed to incentivize companies to reduce their carbon footprint. As the global focus on climate change intensifies, trading in emission allowances has grown, transforming them into important financial instruments.

Emission allowances are included in the scope of MiFID II. This inclusion recognizes the dual nature of these instruments, as both environmental compliance tools and tradable financial assets.

Here’s how MiFID II impacts the trading of emission allowances:

1. Enhanced Transparency: Trading platforms and participants dealing in emission allowances are required to adhere to reporting and transparency rules.
2. Investor Protection: By classifying emission allowances as financial instruments, MiFID II extends investor protection measures to participants in this market. This includes requirements for clear communication, fair treatment, and the safeguarding of client assets.
3. Market Integrity: MiFID II’s provisions on market abuse and manipulation apply to the trading of emission allowances. This helps maintain the integrity of the market, ensuring that it operates efficiently and ethically.

Before trading emission allowances with us, we are required to provide you with a clients classification as a non-professional client, professional client or Eligible counterparty. In order to be classified as a professional client you must meet at least 2 of the following size criteria:

• A balance sheet total of at least €20 million
• A net turnover of at least €40 million
• Own funds of at least €2 million

The EU ETS operates on a "cap and trade" principle:

• Cap: A limit is set on the total amount of greenhouse gases that can be emitted by all participating installations. This cap is reduced over time so that total emissions fall.
• Trade: Within the cap, companies receive or buy emission allowances, which they can trade with one another as needed. Each allowance permits the holder to emit one tonne of CO₂, or the equivalent amount of another greenhouse gas.

At the end of each year, companies must surrender enough allowances to cover all their emissions, otherwise, they face heavy fines. If a company reduces its emissions, it can keep the spare allowances to cover future needs or sell them to another company that is short of allowances.