There is little chance for the auctioning system as of 2013 under the current arrangements of the Regulation No 1031/2010 to pose any competition for the secondary market as regards the reliability of supply and the hedging needs. The operators which expect to cover their emissions in the third settlement period only with allowances bought in the auction should in advance be aware of certain legal circumstances that could complicate their projections.
Why I underestimate the auctioning system in such a way?
The legal measure commented upon in this post:
Commission Regulation No 1031/2010 of 12 November 2010 on the timing, administration and other aspects of auctioning of greenhouse gas emission allowances pursuant to Directive 2003/87/EC of the European Parliament and of the Council establishing a scheme for greenhouse gas emission allowances trading within the Community OJ L 302, 18.11.2010, p. 1
referred to as “Regulation”)
Certainty of the delivery
The first reason is obvious to everybody who had even cursory look at the text of the Regulation - auctioned target products are two-days spot and five-days futures which per se are not suitable for satisfying long-term needs of the market participants. But users of the auctioning infrastructure could also get stuck when dealing with not so apparent issues. According to the Article 48 of the Regulation where the clearing system or settlement system fails to deliver the whole or part of the auctioned allowances due to circumstances outside its control, the clearing system or settlement system shall deliver the allowances at the earliest opportunity and the successful bidders or their successors in title shall accept delivery at that later date. The said provision also clearly reserves that the remedy mentioned above is the sole remedy to which a successful bidder or its successors in title are entitled to in case of any failure to deliver auctioned allowances, due to circumstances outside the control of the clearing system or settlement system concerned.
The above cited provision of the Regulation gives rise not only to the threat that he participation in the auction does not guarantee for the bidder the delivery of the carbon credits in the right time but also imposes on the bidder an important obligation to take the delivery at the later (not specified) date - when it could already be not needed (since the bidder covered its demand, in the meantime, from some other sources).
If somebody wish to have more certainty as to the agreed date for the delivery of carbon credits as well as the consequences of the counterparty’s potential default (the right to damages) it seems the more appropriate way and strategy would be adequately formulated contract on an OTC market along with the carefully designed collateral. These are offered by the secondary market – not the auctions.