Voluntary carbon market FAQs

Strategic markets editor for the voluntary carbon market, Sam Carew, answers frequently asked questions related to this nascent and often opaque market.

What is the voluntary carbon market?

The voluntary carbon market (VCM) allows companies, individuals, governments and others to voluntarily offset their unavoidable emissions through the purchase and retirement of carbon credits from projects that either avoid or remove carbon dioxide or other greenhouse gasses (GHG) from the atmosphere. Each credit represents one tonne of CO2 or equivalent GHG (tCO2e) avoided or removed from the atmosphere, with the vintage of the credit representing the year the avoidance or removal took place.

With more and more companies approaching or setting interim and net-zero emissions goals, there has been growing interest and scrutiny in the VCM in recent years. One of the key components of the market is additionality, which means that credits should not be generated from projects that were mandated by regulation or would have taken place without carbon finance.

Companies can also take part in the VCM through industry schemes, such as the International Civil Aviation Organization’s (ICAO) Carbon Offsetting and Reduction Scheme for International Aviation (CORSIA), in which airline emissions above 85% of a 2019 baseline are offset.

Who are the main actors in the market?

Project developers

Project Developers are the producers of the market, setting up and managing the projects that will issue the carbon credits. These projects will either remove or avoid carbon being emitted into the atmosphere using either nature-based or tech-based solutions and can vary drastically in type, size and scope. Examples of nature-based projects can include Reducing Emissions from Deforestation and forest Degradation (REDD+), regenerative agriculture, Improved Forest Management (IFM) or Afforestation, Reforestation and Revegetation (ARR). Tech-based solutions will use technology to generate emissions reductions or removals and include project types such as cleaner cookstoves, renewable energy or direct air capture.

Once credits have been issued project developers can sell them either directly to end buyers for retirement, or on to traders where they then enter the secondary market. Some buyers will also look to enter long-term offtake or financing agreements to secure credit supply over a multi-year period.

Registries and standards

To issue credits, projects have to be verified and certified against a standard to ensure its emission reductions or removals are taking place. Standards will have different methodologies, depending on the project type, that the projects will have to follow to become verified. These methodologies can also be updated over time, with projects typically having to transition to the newer methodology when they are next verified or the next time credits are issued.

Credits issued by verified projects will then live on a registry, where the total volume of issued credits can be transparently seen. To track credits through their lifecycle, each one is given a unique identifier to avoid double counting of a credit by multiple end users. When a credit is used by an end buyer to offset their emissions it is called a retirement, and is tagged as such on the registry, which then removes the credit from the market so it can no longer be traded.

An example of some of the larger registries and standards include Verra’s Verified Carbon Standard, Gold Standard, American Carbon Registry and Climate Action Reserve, but there are dozens of other standards with some choosing to focus on more niche areas such as tech-based carbon capture.

Corporates/end buyers

End buyers can either be corporations or even individuals who buy carbon credits to voluntarily offset their carbon emissions as part of their net-zero targets. Some buyers will have a preference for certain types of credits, maybe preferring those with added co-benefits or those based in countries where they have high-polluting operations.

Current end buyers come from a wide range of industries and can retire anything from a few thousand tCO2e of credits per year all the way up to multiple million tCO2e. Some of the largest retirers of carbon credits last year included oil and gas, automotive, logistics, airlines and pharmaceutical companies. Tech companies such as Microsoft have also increasingly looked to tie up forward credit purchases as part of their net-zero strategy. Events such as the Rugby World Cup and the Paris Olympics have also sourced carbon credits in recent years.

Traders

Like any other commodity, market traders operate in the VCM, buying and selling carbon credits either to build positions or to source credits for clients.

What can affect the price of a credit?

The VCM can act like any other commodity market, but with a few nuances.

• Supply and demand: In the form of carbon credits issued and retired. Because projects have to go through standards and registries to issue new credit vintages there can sometimes be delays in newer credits entering the market.
• Project type: Whether the project removes carbon or avoids carbon emissions can have an impact on the price of a credit, with removal projects usually at a premium.
• Primary vs secondary: Typically, the primary market, where buyers go direct to project developers, commands a premium to the secondary market. This can be down to either the buyers looking for increased hand-holding through the process or being more willing to pay knowing the money is going direct to the project.
• Co-benefits: Carbon credits can also be tagged and verified with other co-benefits, such as meeting one of the 17 UN Sustainable Development Goals (SDGs) or meeting certain biodiversity standards.
• Standard and methodology used: The standard and methodology used can have an impact on project pricing, with methodologies that are more conservative in their carbon removal or avoidance verifications usually at a premium.
• Vintage: Each carbon credit has a vintage, which is the year that the emissions removal or avoidance took place. Some buyers prefer newer vintage credits and are willing to pay a premium for these, but the vintage curve can also vary from project type to project type.
• Country: Either from buyer preference for certain geographies that they operate in, or potential risks from upcoming regulation.

There is also a growing push towards integrity and quality of projects as the market looks to move forward from recent controversies around overcrediting and the quality of some existing projects out there. This has seen independent governance bodies emerge, such as the Integrity Council for the Voluntary Carbon Market (IC-VCM), which aims to set and maintain a global standard for high integrity in the voluntary carbon market with its Core Carbon Principles (CCPs) which we will go into more detail in another article.

Why is transparent pricing important to the VCM?

The VCM is nascent and often opaque and fragmented. This can leave buyers hesitant to step in and project developers uncertain of their long-term pricing. Even within each project type there can be wild variations in pricing between projects. Clear benchmarks and price signals will allow for greater transparency into what is driving the price of each type of carbon credit, thereby increasing liquidity and helping the market to scale.

The post Voluntary carbon market FAQs appeared first on Fastmarkets.