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Liquidity and market efficiency in the world's largest carbon market

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  • Ibikunle, Gbenga
  • Gregoriou, Andros
  • Hoepner, Andreas G.F.
  • Rhodes, Mark

Abstract

We investigate liquidity and market efficiency on the world's largest carbon exchange, IntercontinentalExchange Inc.’s European Climate Exchange (ECX), by using intraday short-horizon return predictability as an inverse indicator of market efficiency. We find a strong relationship between liquidity and market efficiency such that when spreads narrow, return predictability diminishes. This is more pronounced for the highest trading carbon futures and during periods of low liquidity. Since the start of trading in Phase II of the EU Emissions Trading Scheme (EU-ETS) prices have continuously moved nearer to unity with efficient, random walk benchmarks, and this improves from year to year. Overall, our findings suggest that trading quality in the EU-ETS has improved markedly and matures over the 2008–2011 compliance years.

Suggested Citation

  • Ibikunle, Gbenga & Gregoriou, Andros & Hoepner, Andreas G.F. & Rhodes, Mark, 2016. "Liquidity and market efficiency in the world's largest carbon market," The British Accounting Review, Elsevier, vol. 48(4), pages 431-447.
    • Handle: RePEc:eee:bracre:v:48:y:2016:i:4:p:431-447
    DOI: 10.1016/j.bar.2015.11.001
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    More about this item

    Keywords

    G12; G13; G14; G15; G18; Liquidity; Order flow; Market efficiency; Return predictability; European climate exchange; EU Emissions Trading Scheme (EU-ETS); Carbon futures;
    All these keywords.

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets
    • G18 - Financial Economics - - General Financial Markets - - - Government Policy and Regulation

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