Upcoming Mallesons seminarsAll potential participants in Australia's carbon markets: liable entities, market makers and other market participants.
What do you need to do?Consider the use of this document as part of your carbon trading strategy.
Scott Farrell
Partner
Heidi Machin
Solicitor
Scott Farrell
Partner
T +61 2 9296 2142
Louis Chiam
Partner
T +61 3 9643 4086
Sydney
Vishal Ahuja
Dominic Bortoluzzi
Martin James
Melbourne
Ian Paterson
Perth
Nicholas Creed
Brisbane
Berkeley Cox
Canberra
Stephen Jaggers
Hong Kong
Richard Mazzochi
(馬紹基)
Christopher Tung
(董彥華)
Beijing
David Olsson
(沈文)
London
Rowan Russell
The Australian Financial Markets Association (AFMA) has launched its recommended form of Australian documents for domestic and international carbon trading. These documents (which are based on well-known international standards) are aimed at facilitating the growth of the carbon trading market in Australia. We look at answering ten key questions market participants may ask.
1. What are the documents?
There are two different documents, each designed to be entered into between the two parties to a carbon trade:
- a short-form confirmation to be used to confirm the terms for each carbon trade, and
- a longer document setting out the basic rules applying to each carbon trade entered into between the parties. This only needs to be entered into once between the parties.
2. What has the document been based on?
The documents have been based on the documents published by the International Swaps and Derivatives Association, Inc (ISDA) for transactions in European emissions allowances. This documentation was selected because of the high level of use of ISDA documentation in Australian energy and financial markets, and because some Australian market participants are already using the ISDA documentation for carbon trades entered into under the European scheme.
3. Do they need other documents to work?
As the document is based on the ISDA documentation framework, it works as a supplement to the schedule to the ISDA master agreement which has been entered into between the two parties.
4. Which emission trading schemes are covered?
The documentation is designed to cover trades under the Australian Carbon Pollution Reduction Scheme (CPRS), when it is enacted, as well as the European emissions trading scheme. Accordingly, transactions in Australian emissions units (AEUs) and European emission allowances (EUAs) are covered. Also, as each of these schemes also accepts international ‘Kyoto’ units (such as certified reduction units (CERs) and emission reduction units (ERUs)), transactions in these units are also covered.
The document allows the parties to choose which of the Australian scheme rules or the European scheme rules will determine matters such as eligibility of units and timing on a transaction-by-transaction basis.
5. What types of transactions are covered?
At this stage, the document covers forward sales of emission units which are settled by actual delivery and payment (ie ‘physically-settled’ rather than ‘cash-settled’) on a single delivery date and payment date. A form of document which covers physically settled option transactions is also contemplated for the near future.
6. What happens if CPRS is never enacted?
The document expressly addresses what should happen to trades if the CPRS does not come into effect, or comes into effect and is then abandoned, before the date on which delivery and payment is supposed to occur. If this happens the trade ceases without any payments or deliveries being required to be made between the parties (any amounts already paid need to be refunded with interest). Also, there is an option for the parties to agree at the start of the trade that if this happens, the European scheme is to govern the terms of the transaction - so that the trade may continue.
7. What happens if a trade isn’t, or can’t be, settled?
Until the Australian carbon market has functioned properly for a time, there could be concerns as to liquidity in units and settlement difficulties. The new documents address these issues by providing for a deferral mechanism if a trade cannot be settled on the agreed date. The deferral mechanism works differently depending on whether the failure is the fault of one of the parties or not. In each case, there is a time limit on how long the deferral can last, after which the trade will be terminated if it cannot be performed. Also, the documents have a mechanism under which a non-performing seller can be required to compensate the buyer for any penalty payable by the buyer because it did not have the units it needed to surrender under the relevant scheme (the so-called “Excess Emissions Penalty” or “EEP” provisions).
8. Can only particular types of market participants use the document?
The document is intended to be used by all participants in the wholesale over-the-counter carbon trading and derivatives market, including liable entities under the CPRS and financial institutions.
9. Is a knowledge of carbon markets and derivative documents needed to use the document?
The document assumes that the parties know and understand the operation of the both the over-the-counter derivatives market and the carbon market. It is important that potential parties seek such independent professional advice as they think necessary before using the document.
10. Does the document address the financial market regulation or taxation issues applicable to carbon trading in Australia?
The document does not seek to address regulatory issues such as the need to hold an Australian financial services licence. Also, there are only limited suggestions for dealing with taxation (including GST) issues. Potential parties should seek advice on their regulatory exposure and taxation position before entering into the document (or carbon trades generally).
Members of the Mallesons derivatives team and sustainable enterprises team have been involved in the preparation of this document since its inception. If you have any queries, or need some advice on it, please contact a member of our team.