Krane Funds Advisors has announced the launch of the KFA Global Carbon ETF (KRBN US) on NYSE Arca.
The fund is sub-advised by environmental finance boutique Climate Finance Partners (CLIFI) and provides exposure to cap-and-trade carbon emission allowances by taking long positions in carbon credit futures.
It is linked to the IHS Markit Global Carbon Index and represents a new investable tool for hedging risk and going long the price of carbon while supporting responsible investing.
“This is a historic fund for global ESG investors,” said Jonathan Krane, CEO of Krane Funds Advisors. “KRBN is the first US-listed ETF to combine the largest carbon allowance markets into a single investable fund.”
Sophia Dancygier, SVP and Global Head of Indices at IHS Markit, added, “Across the world, there is a growing demand for investment solutions that facilitate the principles of environmental sustainability, while supporting economic development. We are proud to collaborate with Krane Funds Advisors and CLIFI on the launch of this innovative ETF tracking our global carbon index.”
The underlying index utilizes a rules-based methodology to track a portfolio of liquid, accessible carbon credit futures contracts with physical delivery. The index includes only carbon credit futures maturing within the next two years that have a minimum average monthly trade volume over the previous six months of at least $10 million.
The index allocates to eligible carbon credit futures by their respective average monthly trading volume during the three months preceding the index rebalance. Allocations will be subject to a 10% minimum weight per component and a 65% maximum weight per component in any one of three following geographical regions: Europe, Middle East & Africa (EMEA); the Americas; and Asia-Pacific. No single contract will represent less than 5% or more than 60% of the index.
In a typical cap-and-trade regime, a limit (or cap) is set by a regulator, such as a government entity or supranational organization, on the total amount of specific greenhouse gases, such as CO2, that can be emitted by regulated entities, such as manufacturers or energy producers. The regulator then may issue or sell individual emission allowances to regulated entities. The regulated entities may buy or sell the emission allowances on the open market. Commodity futures contracts linked to the value of emission allowances are known as carbon credit futures.
Eligible components presently include allowances issued under the European Union Allowance (EUA), California Carbon Allowance (CCA) and Regional Greenhouse Gas Initiative (RGGI) regimes.
As the global carbon credit market grows, additional liquid contracts are expected to enter the index. Cap-and-trade carbon credit markets under review as potential future additions include tradable carbon credits in South Korea, New Zealand and China.
According to IHS Markit, as of 29 July, 2020, the global price of carbon was $19.77 per ton of CO2. It is estimated that carbon allowance prices need to reach a range of $50 – $100 per ton of CO2 to achieve the emissions reductions goals of the Paris Agreement, hinting at the possible upside potential for investors in carbon credits should such a reduction be met.
Returns have the potential to be enhanced beyond this by active management of the underlying collateral as the fund will gain its carbon emissions exposure by investing in futures contracts, options, and swaps. The collateral that is not tied up in margin requirement supporting these derivatives will be invested in a mix of government securities and highly rated corporate or other non-government fixed income securities with maturities of up to 12 months.
But as well as the possibility of attractive returns, the sponsors are keen to point out that the fund offers potential portfolio diversification benefits due to the global carbon futures markets’ historically low correlation to other asset classes.
The fund comes with a total annual fund operating expenses of 0.79%.
ETP investors were previously able to gain access to carbon emission allowances via the WisdomTree Carbon (CARB LN). This swap-based product provided exposure to movements in the price of ICE Futures’ European Carbon emissions allowance futures contracts, plus a collateral yield. However, the product was delisted in early June after swap counterparty Shell Trading Switzerland terminated its agreement with WisdomTree on the back of significant energy market volatility and sharp falls in the price of carbon.