Trading Under Pressure : Environmental Compliance and Trading Behavior in the EU Emissions Trading Scheme

Regulated firms under the EU Emissions Trading Scheme (EU ETS) face annually a strict deadline for buying any lacking emissions allowances and attain environmental compliance. By employing a complete dataset of firm-level transactions during Phase I and II of the scheme, our objective in this article is to investigate how this annual compliance pressure impacts their trading behavior. We find that firms in both EU ETS phases engaged more often in emissions allowances trading as the compliance deadline was approaching. Also, while in both phases they were generally following a “contrarian-type” of trading strategy, they were increasingly engaging in “momentum-type” trades towards the compliance deadline in Phase II. We explain these findings based on the specific circumstances surrounding each EU ETS phase under scrutiny, discuss how this trading behavior may potentially jeopardize the scheme in achieving its objective and provide relevant policy recommendations