April 2006  
The Voluntary Carbon Market's Difference Maker: Michael Molitor
by Cameron Walker

In the film The Day After Tomorrow, greenhouse gas emissions jumpstart a series of natural disasters—from tornadoes ravaging Los Angeles to a tidal wave swamping New York City. While movie magic blends science and fiction to make these extreme climate swings happen on a lightning-fast time scale, current atmospheric trends do seem to be snowballing—and the longer people wait to address it, the bigger the climate change snowball will roll, and the faster it will go.

As science advisor to the film, Michael Molitor injected twenty-five years of work on various aspects of climate change into Hollywood's take on global warming. Now Molitor, the former director of Climate Change Services at PricewaterhouseCoopers, wants to use capital markets to try to slow down the mounting pressures of a global climate system modified by human activity.

Last July, the Sydney-based Molitor and his Climate Wedge Ltd. colleagues started the Cheyne Climate Wedge Fund, the world's first voluntary carbon offset fund with London-based Cheyne Capital Management. The fund seeks out and manages high-quality offsets for carbon dioxide emissions for large-scale corporate and institutional buyers.

Climate Wedge may be the first of many hedge funds and other capital market tools that combine economic might with environmentally-targeted investing tailored to combat carbon emissions in the voluntary market.

"Our view of the world is that the use of voluntary carbon offsets is going to grow dramatically." Molitor says. The reason: it's the only thing we can do to slow down the growth in emissions over the next two decades, he says.

Firms have already started to buy into voluntary emissions offsets—including direct offsets, such as investing in reforestation or renewable energy, and by giving consumers the choice of offset products, such as Arapahoe Basin's offset program for skiers (see A Drive to Offset Emissions).

Molitor thinks voluntary markets are ready to explode—in an article for Carbon Finance last year, he wrote that voluntary carbon markets could be ten times the size of the expected market for carbon credits used to meet regulatory requirements, both within and outside the Kyoto Protocol's structure.

Climate Wedge takes its name from a concept developed by Robert Socolow and Stephen Pacala at Princeton University. A "wedge" is a unit of carbon mitigation that would begin offsetting enough emissions now to mitigate one gigaton, or one billion tons, of emissions annually 50 years from now—avoiding 25 gigatons of emissions in the meantime.

To stabilize atmospheric carbon to 500 parts per million, we would need to avoid 175 billion tons of carbon emission—a task of seven wedges.

Molitor's goal: to turn the Cheyne Climate Wedge Fund into one of these buffers to stabilize emissions, driving one gigaton of emissions reductions in the next decade.

Climate Wedge's partnership with an elite management company like Cheyne may be key in creating reductions at this level. The London-based company has a reported $US30 billion under management and won the EuroHedge "Management Firm of the Year" award in 2004.

Cheyne's size and renown provides the Cheyne Climate Wedge Fund the scale needed to potentially create substantial returns for institutional investors and turn other capital markets and investors on to this approach to carbon markets, Molitor says.

If it works, Molitor says, "we think capital markets will look at us and look at this model and say, 'If these guys can do it, we can do it,' and a lot more money will chase this problem."

What It's Worth

To get a sense of what capital markets are up against, Molitor gives this example. Let's say the world agrees to stabilize the amount of carbon dioxide in the atmosphere at 500 parts per million by the year 2050. Looking at projected emissions, this means preventing at least 500 billion tons of human-produced carbon dioxide from entering the atmosphere.

Setting the cost of each ton of carbon dioxide emissions reduced at $20—a conservative estimate, Molitor says—stabilizing global atmospheric carbon creates a $10 trillion problem.

Corporations setting aside a few hundred thousand dollars for environmental programs and other conventional approaches won't begin to meet these needs, Molitor says. "You're not going to solve this problem through altruism," he says. "We have to generate substantial reductions in greenhouse gases and we have to generate substantial returns for investors and shareholders. It's not going to happen because people do it out of their change, out of their pocket, on the side."

Instead, Molitor wants capital markets to generate those sums. Capital markets offer the combination of liquidity and longevity to start raising the trillions of dollars needed to keep the atmosphere's carbon dioxide in balance. "The world's largest financial institutions have to find a way to make capital available on that scale," he says.

Climate Change Conversion

Molitor's thinking about climate change and how to address it has been years in the making.

Growing up mainly in Southern California's warm climate, where year-round sunshine makes it hard to spend even a day inside, Molitor couldn't help being aware of the environment. Some days, tar and oil from offshore rigs washed up on the beach. Other times, the smog was so thick it was impossible to see the ocean, and playing outside meant coughing while playing baseball. "I would come home and my lungs would just be burning," Molitor says.

It wasn't until he arrived for a yearlong fellowship at Scripps Institution of Oceanography that he got a swift immersion in climate change. Molitor, who was then completing joint masters' degrees in geochemistry and economics from Imperial College, London and the London School of Economics, arrived thinking he'd spend the year investigating the potential for mining metals from the sea floor.

He learned that a physical oceanographer named Roger Revelle had read through his file and wanted to supervise his research. "I was a little befuddled by the fact that somebody I'd never heard of had taken an interest in me," Molitor says.

On the way to his new advisor's office on the UC San Diego campus, Molitor spotted one of the campus' colleges: Revelle. Thinking it was an odd coincidence, he kept walking.

In fact, the college had been named after the same Revelle, who had been Scripps' director for more than a decade. In 1957, Revelle and his colleague Hans Suess published a revolutionary paper in the journal Tellus that would later be known as one of the cornerstones of climate science.

At that time, the common thinking was that because the ocean absorbed carbon dioxide, people could emit as much carbon as they wanted without affecting the atmosphere. Revelle and Suess, instead, showed that the combustion of fossil fuels added carbon dioxide to the atmosphere and would continue to accumulate, creating what they called a "large-scale geophysical experiment" with the planet's climate system.

Revelle also recruited Charles Keeling to begin looking at atmospheric carbon dioxide concentrations. Keeling began taking regular measurements in La Jolla, Mauna Loa, and the South Pole. His work led to the now-famous Keeling Curve, a line graph showing the seasonal zigzagging of carbon dioxide levels and their steady increase from 1958 onward.

In 1958, Keeling measured atmospheric carbon dioxide at 315 parts per million. Today, it hovers around 380 parts per million.

When Molitor arrived at Revelle's office, he knew nothing of this. He recalls Revelle telling him that it was unlikely that the sea floor would be mined in the next century, if ever. Instead, Revelle said he should switch his focus to global warming. He gave Molitor some papers to read, including his own.

At first, Molitor was skeptical. "I remember thinking to myself, 'Who is this guy?" he says. "I had a program, what was wrong with my program?"

But once Molitor started reading, he was stunned. He realized, he says, that the problem was even bigger than Revelle had first made it out to be. And he also saw that Revelle played a key part in the climate change story. "If he was telling me this was the way I should go, he probably knew what he was doing," he says.

Back to the Future

This June marks the 25th year since Molitor's early conversations with Revelle. He's been following the path of climate change ever since—from institutions like Harvard and Columbia to the United Nations Secretariat to PricewaterhouseCoopers to his own company.

Each shift from academia to policy to markets has been, Molitor says, a process "of continually looking for the ways where I'm going to have the biggest possible impact in solving this problem."

Now, he wants to make his biggest impact yet through voluntary carbon markets. These markets currently trade a wide variety of carbon credits, but Molitor and others would like to see them use a standardized voluntary carbon unit, or VCU, as the traded commodity. One VCU is equivalent to one metric ton (1000 kilograms or 2,200 pounds) of carbon dioxide. Americans emit, on average, about 25 metric tons of carbon dioxide per year. Climate Wedge has estimated that within three years, demand for VCUs could be more than 500 million tons annually.

Even though he's now focused on buying, selling, and trading VCUs, Molitor says he's not necessarily a natural salesman. On the way home from a Boy Scout fundraising meeting, Molitor recalls eating half the Reese's Peanut Butter Cups he was supposed to sell. Meanwhile, his brother sold two boxes.

But he seems at ease explaining the ins and outs of carbon markets, comparing market nuances to everything from a visit to the doctor's office to the viability of baseball in Australia's Telstra stadium – a common-sense approach that could help companies new to the carbon world feel at home.

"One of the unique aspects of climate change is how it crosses so many disciplines, from hard-core science and technology to economics, politics, corporate finance, media, and international relations," says physicist Alexander Rau, a principal at Climate Wedge Ltd. "Michael really is one of the only individuals who has reached a sophisticated level in many of those disciplines."

Molitor's ability to relate how important it is for corporations to invest in strategies like these as a way of providing insurance against future climate change risk developed during his time at global accounting firm PricewaterhouseCoopers.

PwC acts similarly to a family doctor, Molitor says. Just as this doctor has a wealth of information about each patient—from childhood shots to family history to that ACL surgery last year—PwC has tallied up extensive information about many of the world's biggest companies through its auditing services.

The Climate Change Services group that Molitor ran helped the firm's clients identify whether or not they had risk exposure to climate change. These risks could be anything from forthcoming regulations on emissions to changing attitudes of customers toward how a company addresses its carbon footprint. "That process of watching how companies identify and manage risk, through the eyes of the world's largest financial auditor, was a great window in helping me understand how important capital markets are," Molitor says.

How To Address Carbon

In 2003, after the Sarbanes-Oxley Act began cracking down on how companies advised audit clients following the Enron scandal, Molitor pulled together some of his PwC colleagues to set up the Carbon Management Group to explore new directions in how to address climate change.

Molitor and his colleagues started pulling together what they'd learned through their years in the climate change business world.

When Molitor went to the initial negotiations for the Kyoto Protocol, he says he had complete hope in international governments' ability to address climate change. Over time, the problems have mounted. Key nations, like the United States and Australia, haven't ratified the treaty. In Europe, some countries aren't sure they can renew the treaty past 2012.

Even where markets are going forward, from regional and state markets in these countries to the European Union Emissions Trading Scheme, which began trading in 2005, Molitor says there's not enough money to fight the problem.

"The EU Emissions Trading scheme is the most comprehensive, it is the most forward, progressive, advanced, and deep set of regulations in the world," he says. The EU ETS has 2.5 billion tons of carbon dioxide circling through the market, expected to be worth approximately 10 billion Euros—simply not enough to generate enough reductions, Molitor says, and generate them soon enough. Even assuming that other proposed regulatory schemes—from the RGGI Initiative on the United States' east coast to a state-by-state approach in Australia—meet all their targets until 2015, they won't be able to make real headway, he says.

Governments and regulations are important to stabilizing emissions, Molitor says, "but they're not the key driver."

With emissions set to continue growing, even emerging technology won't be able to keep up, he says. Sell only hybrids, like the Prius—and convert all existing cars as well—and people will buy more and drive farther. For at least the next decade, no new technology appears to be able to make a dent in rising emissions, he says.

Instead of trying small approaches, Molitor wants to super-size voluntary carbon market mechanisms. "You can't fight Godzilla with Underdog. You need a monster that's at least as big."

The Carbon Disclosure Project

One thing that's pointing the way for a market-based solution to reducing greenhouse gases is the Carbon Disclosure Project. Since 2002, the London-based project has been sending annual surveys to the 500 largest companies in the world to learn about each company's greenhouse gas emissions and what level of risk this posed for each company.

In 2006, a coalition of 211 institutional investors with assets of more than $31 trillion—including Climate Wedge partner Cheyne Capital Management—sent this survey to more than 1,800 companies. "Never in the history of capital markets have a group of financial institutions with that kind of financial clout gotten together to press any particular agenda," Molitor says.

From Molitor's perspective, interest in Climate Wedge, too, shows this growing concern for climate risk. The fund attracted enough investors in its first year that it is now closed to new investors, even though there's more demand than Climate Wedge can satisfy. "We have a constant flow of large institutional investors who've expressed strong interest in investing in the fund," he says. "I think that's the ultimate benchmark if you're in this game."

Meaning there's room for additional hedge funds, commercial banks, and other capital markets to provide more emissions-targeted capital. "I just want to see a trillion dollars chasing this problem," Molitor says.

The Day After Tomorrow

While Molitor's been out of the academic world for several years, his past caught up with him in a surprising way. He got an out-of-the-blue call from screenwriter Jeffrey Nachmanoff, whose roommate had been in one of Molitor's Harvard classes. Molitor looked over early copies of the script, visited the set, and talked to key figures in the climate change and environmental communities before the film The Day After Tomorrow was released in 2004.

In April, another production company contacted Molitor for advice about another script. His film sideline, however, constitutes little of his working life, which has narrowed down on capital markets.

He's waiting for the day when capital markets start moving to the tune of a company's carbon footprint. "At the point in which capital markets start to assign value, either up or down, because of the way a company manages its greenhouse gas emissions, then we solve the problem," he says. "Then we can activate a trillion dollars."

When Molitor himself can get on the move, it's often by road bike, surfboard, or occasionally, with a pair of crampons and an ice axe.

But climate change is never far off-screen. On an ice-climbing trip to Iceland with a friend last year, Molitor found the pair's first destination couldn't be climbed. By the time they reached Snaeffellsnes Glacier, park rangers closed off access to the glacier, saying it was too small and unstable to climb.

So Molitor did a little informal research of his own. In a coffee shop, he interviewed a woman who'd grown up next to the glacier. "As a little kid, she'd have to wear a full-length down outfit, it was so cold in the wintertime," Molitor recalls. "She said her kids had never worn one, never even see one."