Identifying the determinants of European carbon allowances prices: A novel robust partial least squares method for open-high-low-close data

Abstract

This study investigates whether energy prices and macroeconomic indicators are determinants of the European Union Allowance (EUA) prices and how their relationships changed in the Phase III of the European Union Emission Trading Schema (EU ETS). An innovative application of the partial least squares (PLS) regression model for open-high-low-close (OHLC) data is proposed and implemented. The OHLC prices of EUA, pivotal energy prices, and macroeconomic indicators spanning the period from 2013 to 2020 are considered in the models. Based on the average results from 2015 to 2020, the energy prices of Brent crude oil, gasoline, and diesel provide stronger explanatory power for EUA prices than macroeconomic indicators, including the European Industrial Development Index, STOXX 600, STOXX 50, CAC 40, FTSE 100, and DAX 30. However, the price of coal does not appear to exert a significant influence on the pricing of EUA throughout the investigated period. The correlation between EUA prices and macroeconomic indicators appears to strengthen over time, while the interpretation degree of energy prices on EUA prices decreases. EUA increasingly manifests its financial attributes in later Phase III of the EU ETS. Based on the regression results, investment suggestions are provided for quota traders to hedge portfolios.