Hedge Funds Bet Big on EU Carbon Market as Supply Squeeze Looms

Hedge funds and other speculative investors are piling into the European Union’s carbon market, betting that a looming supply crunch will drive prices higher and increase costs for some of the continent’s biggest polluters.

Net bullish positions on European Union Allowances (EUAs) have climbed sharply since August, hitting their highest level since 2018 in January, according to data from the Intercontinental Exchange. While positions saw a slight retreat last week amid a broader market sell-off triggered by Donald Trump’s tariff threats, they remain near historic highs.

Analysts say the surge in bullish bets reflects tightening regulations from the European Commission. The total number of permits available in the market is projected to fall by 15% in 2026, according to estimates from energy consultancy ICIS. “A perfect storm of policy decisions is being created that will lead to a significant shortage of permits this year and next,” said Christoph Mueck of Altana Wealth.

Under the EU’s Emissions Trading System, companies in high-emission sectors like power generation, energy-intensive manufacturing, and parts of the aviation industry must hold permits for every tonne of CO₂ they emit. Most of these allowances are auctioned, though some sectors receive a portion for free. The annual supply is steadily reduced to incentivize decarbonization.

This year, the supply is facing an additional cut, along with the cancellation of some permits that were previously added to accommodate the maritime sector. This speculative buying pressure has helped push the price of EUAs from around €70 last summer to €86 on Wednesday. Earlier this month, prices touched €92, a high not seen in over two years.

However, political uncertainty has reintroduced volatility. Mark Lewis of Climate Finance Partners noted that geopolitical risks remain a decisive factor. At the same time, some European governments are raising concerns about the cost of the green transition. German Chancellor Friedrich Merz has called for free allowances to continue beyond 2034, while Slovak Prime Minister Robert Fico has suggested suspending the carbon market entirely for four or five years. The Commission is expected to publish an assessment on the matter later this year.

Others argue that higher prices are a feature, not a bug, of climate policy. “The rise in the cost of carbon sends a clear signal to investors to direct capital to decarbonization,” said Marcus Ferdinand of Veyt. Some speculative investors are now betting that EU carbon permits could surpass €100 per tonne within the year.