EU carbon: the 2027 cap step-down is priced, the industrials are not

EUA prices have done what they were supposed to do: grind higher into a year in which the cap steps down and the market stability reserve absorbs another tranche of surplus. At €68/t the December contract is up 22% year-on-year, and the curve is in modest backwardation. That is a well-behaved market pricing a well-signposted policy.

The unpriced part is second-order. An allowance at €68 is a manageable cost for a cement plant with free allocation and a pass-through mechanism. At €90 — which is where our supply-demand balance puts the 2028 average — it becomes decisive for the marginal producer in aluminium, ferroalloys and ammonia, several of which are already running at the edge of their cash cost.

We are not forecasting a wave of closures. European industrial capacity has a habit of persisting through cycles because of long-term contracts, state support and the simple fact that restarting is harder than continuing. What we are forecasting is that the sector's cost curve steepens, and that the equity market's implicit assumption of stable European production is too generous.

There is a supply-side counterweight that gets less attention: the pace of renewable build-out is now fast enough that the emissions intensity of European power is falling roughly 6% a year. For an electro-intensive producer, that is a meaningful offset to a rising allowance price because it reduces the number of allowances that must be surrendered per tonne of output. The net exposure is smaller than the headline price move implies.

For traders, the cleanest expression is not the allowance itself but the spark between EUA and German baseload power. That spread has compressed through the summer and looks cheap against its own history if the cap step-down lands as legislated. We would rather own that spread than an outright EUA position, because it isolates the policy variable from the gas variable.