Governments around the world turned on the money printers in 2020 and 2021. The inflation that we’re seeing now (partly as a result of that) is worrying and I’m buying this UK stock to try and protect myself.
Economist Milton Friedman once said: “Inflation is always and everywhere a monetary phenomenon, in the sense that it is and can be produced only by a more rapid increase in the quantity of money than in output.”
Of course, the war in Ukraine and supply chain bottlenecks have also contributed to the UK consumer price index (CPI) hitting 9.9% in August.
But M0, a measure of the money supply controlled by the Bank of England, has increased by 16% since 2020. In my view, that has watered down the value of the pound.
Although central banks around the world are working to rein in the excesses, I’m skeptical. I think the temptation to go back to money printing will be too great if a big recession hits.
What if…?
What if I could invest in something that would see its supply reduced instead of inflated every year?
I believe I can do exactly this by investing in carbon permits issued by the EU’s Emissions Trading Scheme (ETS).
And there’s a UK stock, WisdomTree Carbon ETC (LSE: CARP), which allows regular investors like me to get exposure to the spot price in this market.
What are EU carbon permits?
The EU’s ETS sees a fixed number of ‘pollution’ permits issued each year. Firms in qualifying EU industries must hold one permit for each tonne of CO2 emissions produced. The industries covered by the scheme currently include power stations, oil refineries, steelworks, and civil aviation.
Firms get ‘free’ allowances each year. If they emit more than is covered by their permits, they can buy those that other firms have left over. The scheme thereby rewards companies that work to become ‘greener’.
At the same time, each year it becomes harder for firms to have leftover permits to trade. That’s because the EU aims to reduce their supply by 61% by 2030, or by 4.2% every year (starting in 2024).
The price to pollute
Currently, the permit price sits at €68, having spiked to €98 in August. This represents an attractive entry point to me. There’s a ceiling of €100 per permit, as firms are only fined this amount for each permit they’re missing at the end of the year. However, this fine grows each year with the CPI.
The market for these permits is volatile, with swings as violent as those seen in commodity prices. This year, traders hyped up the carbon market over expectations firms in the EU would burn more dirty coal this winter. They’ve since backpedalled on that sentiment as natural gas prices have tumbled in the last few months.
Of course, a U-turn by Brussels-based policymakers on the trading scheme could be disastrous for my investment thesis.
Despite the political risk, I reckon the price of emitting CO2 will rise in the EU – and that the value of pound sterling swilling around in my bank account will keep eroding. For that reason, I’ve added WisdomTree Carbon ETC to my portfolio.