Template:M summ EUA Annex (d)
Settlement
Transfer from a specified Holding Account
Curious conditionality, across all three versions, where the Delivering Party specifies a Holding Account from which Allowances must be delivered, and not just the account to which they must be delivered. Quite why it should matter whence the Allowances come we cannot say — a vague fretfulness about theft perhaps? — but ok; let’s run with it.
Note, in any case, its moderation in IETA (5.2) whereby one has an obligation to make sure there are sufficient allowances in your account to satisfy your delivery obligation. So even though you can’t be forced to deliver from anywhere else, you can be sued for losses arising from your failure to ensure there was something to deliver in your Holding Account. All rather cack-handed, but in “fundamental upshot” terms, this does get to the right place.
The transfer is done once the Allowances hit the Receiving Party’s account (I know, I know: you don’t say.) But wait: there is an interesting use of the word “whereupon” here, upon which we dwell in a bit more detail in the premium section.
Delivery
All tediously quotidian, largely-goes-without-saying stuff, until you stumble over subparagraph (B) like an inattentive trail-runner not noticing a tree-root.
So:
(A)
Transfer from a specified Holding Account
Curious conditionality, across all three versions, where the Delivering Party specifies a Holding Account from which Allowances must be delivered, and not just the account to which they must be delivered. Quite why it should matter whence the Allowances come we cannot say — a vague fretfulness about theft perhaps? — but ok; let’s run with it.
Note, in any case, its moderation in IETA (5.2) whereby one has an obligation to make sure there are sufficient allowances in your account to satisfy your delivery obligation. So even though you can’t be forced to deliver from anywhere else, you can be sued for losses arising from your failure to ensure there was something to deliver in your Holding Account. All rather cack-handed, but in “fundamental upshot” terms, this does get to the right place.
The transfer is done once the Allowances hit the Receiving Party’s account (I know, I know: you don’t say.) But wait: there is an interesting use of the word “whereupon” here, upon which we dwell in a bit more detail in the premium section.
(B)
We’ll talk about (B) in the premium content section.
(C)
If the Receiving Party has designated multiple Specified Holding Accounts — as to why it would have multiple accounts, let alone specify them for a single Transaction we can provide no answer beyond basic bloody-minded perversity — but let’s just say — Delivering Party starts at the top and, if for some reason the first-named accounts are subject to some kind of disruption and the later ones are not — again, search us what might cause that — work its way down until it has delivered all EUAs. (If it gets to the bottom unfulfilled, see Settlement Disruption Event and Suspension Event).
(D)
If you deliver outside the normal window during business hours, your delivery is deemed satisfied at the next moment where a window on business hours opens. Workaday stuff that will be familiar with anyone who deals with the settlement of securities for a living.
But (B)? That’s weird. For more discussion on that, and a compare and contrast with the corresponding IETA provision, see the premium content.
This one is sure to have those with a liberal arts education clutching at their breasts, if not outright pleading for mercy — but one thing we can say is this is a delivery failure that doesn’t arise through the caprice of governments, regulators, market dislocation, or the overwhelming lack political will to care less about carbon emissions any more. This is where the Seller has, to put it bluntly, stuffed up.
Now you might say — and you would be right — that it is typical in the equities market to disapply “Failure to Deliver” as an Event of Default — this happens in the 2010 GMSLA and the 2002 ISDA Equity Derivatives Definitions — but there the theory is, look, the settlement market for equities is notoriously failure-prone; that ninety-nine times out of a hundred a failure has nothing to do with the counterparty, and if the counterparty has blown up there will be other indications of that (failure to post margin, failures to pay under other contracts, cross default and so on. So perhaps that applies here too?
Well, yes — except that the Carbon Squad has busily drawn out and separately dealt with the sorts of things that cause many settlement failures: {{{{{1}}}|Suspension Event}}s and {{{{{1}}} Settlement Disruption Event}}s. What we are left with, beyond credit implosion, is upstream counterparty failure and operational error. The EUA market hardly being the liquid morass that is the equities market there aren’t as many settlement chains and operational failure — okay, but in this age of chatbots and smart contracts, you would like to think a market as futuristic as the EU ETS wouldn’t tolerate this kind of thing, either.
Failure to Deliver under (d)(ii) and Event of Default under 5(a)(i)
Here is the question we put to all EU Emissions Allowance Ninjas out there — and there must be some, Lord only knows there must; it can’t just be me out here wrestling with this, can it? Can it? CAN IT? — why is a Failure to Deliver — one that specifically isn’t caused by some mendacious circumstance outside the Delivering Party’s control, like a Settlement Disruption Event, or Suspension of the European infrastructure, Abandonment of Scheme, Force Majeure or any of those other things — why is an inexcusable Failure to Deliver an Emissions Allowance when due not just a normal old Section 5(a)(i) Failure to Pay or Deliver Event of Default like it would be for any other asset class? Or, perhaps, is it, a normal old ISDA Event of Default, but as an alternative? Blunt close-out doesn’t seem to be excluded as an alternative, at any rate.
This strikes us as quite different to the common experience of settlement fails in the stock loan and repo markets, for example, which are famously not Events of Default, precisely because they happen all the time.
We are beginning to understand why. So real European “operators” — those who belch hot air into Mediterranean skies, as they generate energy from their coal-fired power-stations — must pay their European overlords for the privilege of doing so. They must do this by 20 April in each year — the so called Reconciliation Deadline. If they are late in surrendering their Allowances, such that they have emitted more carbon than they have, in effect, paid for, they can become liable to pay Excess Emissions Penalties under the EU ETS directive. This is something like EUR100 per tonne of uncertificated carbon.
Dabei, if you, as a counterparty to such an operator, cannot without fair excuse, deliver the Allowances you owe that operator and, the operator thereby misses its Reconciliation Deadline, you must pay compensation. This is translated through to your Transactions as long as you remember to apply EEP, and an EEP Risk Period, in your Confirmation.
EEP Risk Period
And if you forget to specify whether EEP applies, you are hardly likely to remember to designate an EEP Risk Period, are you? The EEP Risk Period is relevant to the consequences of a Failure to Deliver when Excess Emissions Penalty applies. In that regard see:
- (i) Paragraph (d)(ii)(1)(B)(Y) (yes, seriously) which might have been entitled “Failure to Deliver by Delivering Party where Failure to Deliver is not Rememedied and Excess Emissions Penalty applies”.
- (ii) Paragraph (d)(xi), which is entitled Failure to Deliver (Alternative Method) - EEP Applicable.
For the Seller doesn’t deliver the full quota of allowances to be delivered, the Buyer only has to pay the agreed strike/purchase price for those that are delivered, and the remainder of the Transaction will be closed out as if it were a Failure to Deliver. This is a bit curious — why wouldn’t it just be closed out under normal Section 6 close-out methodology and the undelivered portion be treated as an Unpaid Amount? But it probably gets to a similar place (though perhaps it pauses Section 2(a)(iii) at least until the pro-rata partial payment is made. Again; as to why, search us.
Decoupling of Phase 3 and Phase 4 Allowances: a wild guess
One possible reason — though it is unlikely and we are really reaching here — is the outside contingency of wehat we have seen described as a “Fungibility Event”: that the Seller is holding Phase 3 Allowances and they, by regulatory decree, unexpectedly become ineligible for surrender past a specified date or some such thing. (We think this is a highly remote contingency, seeing as the Allowance futures contracts don’t differentiate between Phase 3 and Phase 4, so market participants can hardly control which type of Allowances they hold, and it would be perverse and counterproductive behaviour for ESMA to suddenly deem part of the market ineligible.) But, look — no-one is denying regulators do ill-advised and counterintuitive things; so you never know.
But we don’t think that is it: for one thing, if that event happens there will almost certainly be plenty of notice. Phase 3 and Phase 4 Allowances currently trade as if fungible. They will rapidly decouple, and the best mechanism would be for Buyers — whom we expect to be end users, right? — to accelerate delivery of expiring Phase 3 Allowances so they can surrender those first. Sellers — financiers in the main — won’t wildly care as long as their funding break is taken care of. In any case having to wait until final settlement, and then being discovering tendered Allowances are worthless, seems a bit of a head-in-sand tactic.
There’s no easy solution to this, which makes us think that even if the EU regulators do such a silly thing, they will quickly change their minds when they see the resulting market confusion and dismay.
What happens if, in its infinite wisdom, the European Union decides that an Emissions Trading Scheme is a silly idea and we should just embrace a future as Venusians, or Scottish vintners or something similar. You may see people tinker around with this — our favourite is “... or there is a proposal to abandon the Scheme... ” which given its looseness (there’s always some wingnut from a minority in an some oil-burning pressure group proposing something like that) and the lack of consequences beyond the transaction should it happen or not happen — it isn’t like it is an illegality or something where you can go to prison if you blithely carry on — there really seems no sensible call for this.
You have to send a VAT Invoice. For your net supply. Tax fiddling was, in the early stages of the EU ETS, quite the problem. We are given to understand it is less of a problem now.