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The cheapest reserves of oil and gas are disappearing and continuing to use those fossil fuels which remain emits carbon is increasingly disrupting the global climate and economy. Older oil wells, such as those around the Persian Gulf, are economical with oil at $7 a barrel, but many of these retain just a third or less of their original reserves; while newer resources, such as the oil sands of Canada, are economical only with oil over $80 a barrel. At the same time, atmospheric carbon dioxide is now 37 percent above its preindustrial level, and average global temperatures are up by nearly a degree Celsius – enough to noticeably shift weather and agricultural patterns, but still only a fraction of what will follow if carbon emissions are not controlled.

The total energy available annually from renewable sources, meanwhile, is thousands of times what the world economy consumes and the engineering knowledge needed to extract it is largely in place. Physically speaking, it seems obvious that the transition to renewables should happen swiftly and immediately.

Economic and political factors, however, impede the transition. In both our infrastructure and our ideas, fossil fuels have the advantage of incumbency, making them harder to displace. The environmental costs of carbon emissions are not properly incorporated into market prices for energy, so private economic returns from fossil fuels remain higher than those from renewables. And escalating fuel prices resulting from tightening supplies will only stimulate development of new energy sources when it is already too late.

Systemic change is needed, and only government can break the deadlock. But which policies do we need? To answer this question, we must look at the current cost competitiveness of renewable energy and how policy can improve this. In doing so, I will look mainly at renewable energy in electricity generation.

Price comparison
For any power source, the principal economic considerations are the initial capital cost per unit of generating capacity, the rate at which this capacity is utilised, the operating costs per unit of electricity, the price of electricity, interest rates on financing and the project lifespan. Renewables tend to have higher capital costs than other power sources, often because the technology is not mature, and to have much lower capacity utilisation, because of intermittency of the resource. But they also have dramatically lower operating costs because no fuel is needed.

The total costs of generating electricity from different sources, taking all of the above factors into account, are as shown in Figure 1. This also shows the cost that would be incurred if a carbon tax at ¤25 per tonne of carbon dioxide were imposed on fossil electricity. The range of valuations that economists attach to the full social and economic costs of carbon emissions is ¤20-€30 per tonne, though even €30 may be an under-estimate.
The key point is that, because fossil fuels are much cheaper, energy firms will mostly put their money into these rather than renewables. So, without policy support, renewables cannot yet compete.

The costs of wind energy are unlikely to fall much. The technology is mature and whatever incremental cost benefits are realised from new turbine designs and materials are likely to be offset by the need to move onto less amenable sites than those initially exploited. In solar power, however, radical refinements such as ‘multi-junction’ cells that capture far more energy by having multiple layers that absorb sunlight at different wavelengths, or ultra-thin solar cells that use raw materials more efficiently, could make solar competitive without government support within a decade or two.

Until then, governments must intervene to level the playing field and make renewables competitive. The simplest way to achieve this would be a carbon tax on large emitters. If this reflected even a fraction of the wider cost of fossil fuels (reflecting the full cost immediately would likely be too disruptive and politically difficult), it would instantly make renewables more competitive than smokestack power stations.

Energy taxes, in some cases based partly or largely on carbon content, and often applying to transport and power generation in different ways, are in place in many European countries. Sweden has a carbon tax at up to ¤100 per tonne – albeit with several exemptions – and has experienced a substantial shift to low-carbon energy while suffering no economic harm. Denmark has a carbon tax at ¤18 per tonne. India introduced a carbon tax on coal power in 2010 but it is at less than ¤1 per tonne – potentially enough to finance research and development but enough not to affect the economics of power projects. State, provincial and local governments in the US and Canada have also introduced modest carbon taxes and other governments have considered them.

The European method
Another approach to achieve the same outcomes as a carbon tax is a system of cap-and-trade for carbon emissions. This involves selling permits to large polluters to emit carbon up to a certain quantity over a given period, and allowing them to trade these permits so that those emitters who do not utilise their full limit can sell permits to those who will exceed their limits. Companies who emit more than their permits allow face a fine per tonne of carbon substantially more expensive than the cost of permits. The result is that carbon emissions carry a price and, if the number of permits supplied by government is shrunk over time while the cost of their initial purchase and that of fines is increased, this price can be adjusted to exceed the ¤30 per tonne level deemed critical to fully reflect the damage done by carbon emissions.

The European Union introduced just such a system, centred on the European Union Allowance and the Emissions Trading Scheme in 2005. However, the initial issue of permits was free of charge and their quantity has not been sufficiently reduced over time. The EU carbon price currently sits around ¤17 per tonne but firms involved have paid much less due to the effect of free permits. Carbon prices under this system are also susceptible to arbitrary swings driven by sentiment and momentum, as happens in all financial markets, and the complexity of the system has permitted fraud. A simple carbon tax with appropriate indexing to inflation would be a better way to give firms a clear expectation of future carbon prices – making them frame their investment decisions accordingly.

More carrot, less stick
Feed-in tariffs are a different way to support renewable energy. These entail guaranteed access to the electricity grid, long-term contracts and a guaranteed price for renewable energy, often up to a certain maximum amount of power per supplier. Electricity distribution firms, be they publicly or privately owned, may then be obliged to meet this cost but can pass it on to consumers. Alternatively, the state may pick up the extra cost of renewable electricity through subsidies.

Rather than worsening commercial returns from fossil power, feed-in tariffs improve those of renewables – potentially making this approach more politically acceptable. Such tariffs have been employed in over 60 countries, mainly in Europe but also the US, Canada, Brazil, China and others. They were first introduced in the United States from 1978 but had limited impact there. It was in Germany, from 1990, that the policy was first pursued with vigour. Initially renewable energy producers were guaranteed a price of 65-90 percent of the final price for electricity from all sources. This resulted in 4400MW of wind power capacity being deployed in Germany during the 1990s and in renewables accounting for six percent of German electricity production by 2000.

German policy was reformed in 2000 with electricity prices paid by utilities to suppliers of renewable energy thereafter being based on cost of production in a manner that tended to offer investors a certain minimum annual return. This return was below what the technology can now achieve without state support but this was not the case when the policy was introduced, and putting a floor under returns is still effective in ensuring that renewables get a larger share in energy investment portfolios than would otherwise be the case.

Other countries have followed the German example, notably Spain and Denmark – with the former focusing on solar power and the latter on wind. Spain now gets nine percent of its power from renewables and Denmark 20 percent. The resulting increase in consumer electricity bills, meanwhile, has been modest; estimated at ¤4 per month for the average German household. Some cuts have recently been made to feed-in tariffs in the face of Europe’s sovereign debt crisis – a shockingly short-termist response. The UK, meanwhile, plans a minimum carbon price and feed-in tariffs for low-carbon energy but its policy outlook remains unclear after the recent austerity budget.

The path ahead
Many other policy instruments have been tried. Governments have set targets for the percentage of power they will get from renewables (15 percent by 2020 in the UK) and are using other policy instruments to meet these goals – with targets themselves also acting as signals when investors form their expectations. Building and vehicle standards for energy efficiency are being tightened and subsidies offered to refurbish buildings, with ¤20,000 refurbishments to old houses potentially cutting fuel bills and carbon emissions in half. R&D in new energy technologies is being financed. Installation of solar panels on houses in Germany has been subsidised – a policy that helped the global solar manufacturing industry establish scale, but which also inflated global prices for crystalline silicon and put many of the world’s solar panels in cloudy Germany.

Policymakers are looking to make electricity grids more amenable to renewables. Developments include lower electricity prices for certain domestic and industrial processes in return for halting when the supply of renewable power is low; long-distance power lines for exchanging renewable electricity over thousands of kilometres; power storage facilities to smooth supply intermittency and arrangements for feeding power generated by homes or businesses back into the grid.

Public policy has triggered flows of private capital into renewables. Total annual investment in new capacity (priced in constant dollars) rose from less than $10bn globally in 1995 to more than $150bn today. R&D investment has shown a similar trend. And major global players such as Suzlon and Vestas in wind power and First Solar and Q-Cells in solar have emerged. Eventually, as technology improves, such firms will be able to carry renewables forward without government help.

But we are not there yet. Renewables need state support and we know what works on this front. Governments need only learn the lessons and redouble their efforts.

Every time the euro rises or falls – and there’s been a fair amount of both lately – it asks tough questions of traders of what action to take. This is where white-label providers such as Saxo Bank play an increasingly important role. Specialists in online trading and investment, they plug the gap between knowledge and action: between reading the situation and pressing the button.

Copenhagen-based but with offices around the world, Saxo Bank has worked with hundreds of institutions in the last decade to provide the proprietary technology and insights necessary to ride the forex storms. As co-founder Lars Seier Christensen says: “We see the thorough due diligence process done into our business by large institutions as a form of documentation of the quality of our white label solution.”

The spate of accolades recently won by Saxo Bank can also be seen as a form of documentation. At Euromoney’s 2011 forex awards, it scooped six prizes: best improved market share by volume in two categories, best speed of execution, best effective risk management and execution strategies, best research and analytics, and best integrated workflow and compliance solutions. Arcane as they may sound, these are much-valued capabilities; the tools that make forex trading more efficient.

Saxo Bank has grown rapidly on the back of internet-based trading in what is surely the age of forex, as observers of the troubles in the eurozone will vouch. With European sovereign currencies punished by lenders in the wake of the financial crisis, the markets have been in turmoil as traders seek safe havens or, more commonly, look to achieve profits from the general mayhem while central bankers and regulators try and restore some semblance of order.

But it’s not just the eurozone. Never have global forex markets been busier, more volatile or more challenging. The old rules are ripped up almost on a daily basis by developments in literally scores of currencies that until recently were very much on the sidelines of world markets.  Even the most experienced traders have been caught out by unexpected movements that defy conventional analysis.

Yet during this turbulence forex has steadily established itself as an asset class in its own right, one that requires all the tools of the trade necessary for traders to find their way in what looks at first sight like a labyrinthine maze of complex and interlocking relationships, unpredictable outside forces and exotic currencies that are relatively new to this fast-moving yet fascinating universe.

Currency demand
To name a few recent upheavals, it’s only in the last few months that corporates have been able to deal in China’s renminbi. In the wake of the financial crisis many sub-Saharan currencies now offer more attractive returns than western ones do. BRIC nations’ sovereign bonds have established their own presence in the markets. And the warning of a downgrade of the US dollar rocked long-held assumptions about the greenback as the world’s fall-back currency.

Thus a deep knowledge of the forex markets has become even more obligatory for exporting companies, corporate treasurers, financial institutions and a fast-growing body of individuals who deal in currencies in much the same way as other investors buy and sell equities or any other asset. It’s also a multi-faceted market, with many different niches.

“Currently, spot is experiencing high demand from investors,” points out other co-founder Kim Fournais. “However, as retail clients become more aware of the advantages of using options, we expect to see significant growth in the option space.”

Overall, forex is a vast market. Daily average turnover hit a staggering $4trn last year – 20 percent higher than four years ago, according to a survey by the Bank for International Settlements. Although that’s down on the unprecedented high levels of trading in the years leading to the financial crisis, volumes are expected to grow in the future. Much of that furious growth is down to the financial sector which accounted for 85 percent of the increase in turnover.

“This growth was driven mainly by high-frequency traders, banks trading as clients of the biggest dealers, and online trading by retail investors,” explains Mr Christensen, a 25-year veteran of the industry. “But a rise in trading by small retail investors has made a significant contribution to growth in spot forex and this was made possible by the spread of online trading.” He is convinced that this kind of retail trading will continue to grow as the internet becomes an indispensable tool.

And with the market deepening year by year, almost month by month, the thirst for higher-quality information grows. “Clients want more transparency, better products, pricing and services,” adds Mr Fournais. “Modern traders and investors demand usability, mobility, performance, and service when executing online trades.” Saxo Bank therefore continuously rolls out new products; tools, technical studies, charts and anything else that will help take clients’ trading to the next level in this turbulent market.

Future of the eurozone
As a global investment bank involved in international markets, Saxo Bank has a close interest in the entire eurozone debate. Indeed one of the group’s European offices is in Athens – currently at centre stage in this highly charged debate. And it’s a debate that requires careful analysis. Almost as a philosophy, the bank prides itself on developing independent, rational opinions on important topical issues. Originally called Midas, the institution acquired its current name in 2001 when it was awarded a European banking license. The unusual title comes from Danish folklore – Saxo Grammaticus was a medieval historian famous for his Story of the Danes, the basis for Shakespeare’s Hamlet. And clearly, rational analysis pays off – Saxo Bank’s profit before tax in 2010 was 913.8m Danish kroner (approximately €122.5m), representing nearly quadruple the 2009 figure.

The institution has prospered through the rapid expansion of the forex universe. A vast alternative network of information has rapidly developed in the form of investor communities and financial news portals where institutional and retail traders swap insights and tips. The 1.8m users of Saxo Bank’s recently acquired European portal, EuroInvestor.com, provide plenty of evidence of this flood of interest in the asset class. “We want to bridge the online universe of the communities and the trading platforms of Saxo Bank,” says Mr Fournais. “This way we can support investors who lost trust in advisors from the traditional banks and brokerage houses during the financial crisis.”

Although hit by the crisis like most other asset classes, forex has bounced back better than most. Forex was one of the banking sector’s most profitable divisions before the crisis and during immediate fall-out. At the time of the bankruptcy of Lehman Brothers, forex activity hit a near all-time high in October 2008 before falling suddenly until October 2009 when it began a recovery. Right now, activity is steady.

However the numbers remain impressive, even in a recovering market. At Saxo Bank alone for example, monthly average trading has been running at about DKK 1.3trn (US$240bn). Although that’s down from an average DKK 1.7trn a month (US$320bn) in the first half of 2010, it still represents a lot of trades as well as a new-found respectability.

“The perception of the forex industry has most certainly changed internationally,” says Mr Christensen. “It’s considered an asset class on its own rather than as a necessary add-on to cross-border transactions. More and more traders recognise the opportunity to make a profit in what is a volatile asset class.”

Rise of white-label
Saxo Bank’s rapid rise reflects the growth of the asset class itself. Launched by Messrs Fournais and Christensen in 1992, it now boasts over a thousand employees in offices all over the world, including Australia, the Czech Republic, France, Greece, Italy, India, Japan, the Netherlands, Singapore, Spain, Switzerland, the UK, Ukraine and the United Arab Emirates. Along the way Saxo Bank has become perhaps the leading global provider of white-label trading solutions. That is, the purchase by the financial sector of proprietary intellectual and technological platforms developed by outside specialists. Increasingly, this is seen as preferable route to forex-trading than the burden and cost of developing such complex expertise in-house.

As Mr Christensen explains, white-label platforms make sense on several levels: “Both large and small institutions are asking themselves why they should waste valuable time and resources on building their own online trading platform when they can get a proven platform like SaxoTrader [the award-winning solution largely devised by Mr Fournais, the bank’s online and IT expert]. Instead of starting from scratch, they benefit from decades of expertise and development.”

Specialists such as Saxo Bank underpin the trading function. It has, for instance, many smaller banks as clients, which in turn make markets for their own clients trading in local currencies. Adds Mr Christensen: “This hybrid role allows these banks to add value to their own clients by profiting from their local expertise and comparative advantage in the provision of credit, but without the heavy investment necessary to compete in spot market-making for the major currency pairs.”

Regional and local banks, brokers and global giants including CitiBank – a Saxo Bank client – are turning toward white label solutions. Indeed hundreds of financial institutions have collaborated with the trading specialist since it won its banking license in 2001. “With such a broad range of white-label clients, we have been able to acquire a very deep experience across the entire trading value chain,” says Mr Christensen.

Paradoxically, as the market deepens the technology becomes simpler to use, more helpful and richer in options that allow traders to express their currency views. No firm can afford to mark time in such a fast-moving universe, and in mid-June Saxo Bank will launch two highly exotic technologies – a one-touch option and a no-touch option. Despite the complexity of the design process underpinning, it’s a straight forward, easily understood, functional technology that allows clients to execute a position for a directional currency movement.

A big attraction of white-label trading platforms is their affordability. For Mr Fournais, it’s a win-win situation seldom seen in the financial industry, where the reverse is commonplace and banks and corporate customers can fall out in a welter of litigation over expensive solutions that proved to be anything but. “A white-label solution is extremely cost-efficient and requires very little upfront investments by the bank or broker,” he explains. “For Saxo Bank, the return on the investments comes over time from trading income. The situation is even better for the white-label clients because the trading activities create earnings but require none or minimal investment.”

Using the platform
But what criteria should buyers look for in a white-label platform? Interestingly, Mr Christensen doesn’t cite wondrous technologies, but simply “a good chemistry between the two organisations.” In practical terms, that means a happy match in terms of culture, values and strategy. Without all three, the technology is unlikely to meet its full potential.

White-label trading works best as a mutually beneficial partnership. “The choice of white label solution is an important strategic decision for both large institutions and smaller banks and brokers,” explains Mr Fournais. “The provider must be able to support the current online trading business as well as guide its future development.”
Yet it’s a balancing act too between support and guidance on the one hand and too close an involvement on the other. “The bank or broker must remain in control of the business,” insists Mr Fournais. “It would be a mistake for the provider to force second-best decisions on the client just because of the white-label relationship. We work hard to support the business of our white-label clients, but we definitely don’t try to run it for them.”

A crucial element of that relationship is the enhancement of the client’s ability to adjust to often rapid and hectic changes in the trading environment. “A good white-label provider should constantly present new opportunities rather than locking the bank into an inflexible solution that may work for today but not for tomorrow,” adds Mr Fournais. “This is a highly competitive environment.”

In short, the onus is on the provider to help the business grow. Although it has made its mark as a forex firm, Saxo Bank offers multi-asset trading platforms on which the client institution can add more products to its offerings, either for itself or for its own clients.

Impressive as some of the trading technology may be, back-office functions remain crucial because they underpin the integrity of the whole process. Thus Saxo Bank provides its white-label clients with a number of operational services that are integrated into trading applications, such as the extraction of end-of-day files for further use and support for the burden of regulatory or management reporting. This is done without breaching confidentiality. “All our back-office processing is done using anonymous customer identification,” explains Mr Fournais. “That ensures Saxo Bank has no record of customer contact details.”

Strategic vision
Saxo Bank’s journey began in 1992 when the partners opened for business with little more than a phone book and a telephone as their prime business tools. However, they had a clear idea of the mission. “Our objective was to provide private investors with the same opportunities as professionals,” remembers Mr Christensen. “We later recognised that only through the internet could this be achieved.”  They saw that better technology could differentiate them from competitors and launched an online trading tool in 1998. They also saw that white label was the way forward and their first customer was a 150 year-old Portuguese securities dealership that signed up in 2001.

Saxo Bank’s secret weapon is that it is a facilitator. Namely, a trading platform that is integrated into the exchanges and allows orders to be routed directly to them with the support of large financial institutions that provide liquidity and the essential infrastructure.

So far, so good. What lies ahead in this exciting asset class? Messrs Christensen and Fournais identify three major trends – transparency (“driven by regulators and pure self-interest”), self-empowerment (“following the crisis many clients think they can do as well as the professionals”), and networks across industries (“communities and news portals will play an even more important role”).

Take transparency. As the co-founders describe it, only transparent white-label providers will cut it in the post-crisis, highly regulated world with increasingly sceptical clients. They also predict an increase in litigation between disappointed clients and inadequate providers.

Take self-empowerment. As Mr Christensen summarises it, “Clients are saying: ‘I want to understand what happens and I want to have influence on at least a part of the portfolio. I understand that there is more than stocks and bonds out there, and I want to learn more. I increasingly have a view on oil, gold, the US dollar, the Swiss franc, and the politics, economic and market conditions that affect these assets. And I want to do this when I have time – evenings, weekends, 24/7.’”

And take networks. “The best way to enhance understanding and increase access to information [in addition to what the banks provide] is through the media, financial sites, social networks like Twitter, Facebook, linkedin and online communities with people that you trust or respect,” concludes Mr Christensen. “I would rather get my information from people in my own situation, with the same interests as me, than from a salesperson. And the information sites need to drive real revenues, not just advertising. Information and software price is going towards zero and these need to be combined with trading revenues.” He cites MSN Trader and Euroinvestor.com as stand-out examples.

Saxo Bank’s co-founders believe that white-label forex finds itself in a different environment after its first flurry of growth and after the turmoil of the financial crisis. “The tail wind has gone and only real quality, real competence and real common sense will replace the sophisticated but inefficient models and complicated and, in many cases worthless, financial structures that defined the past decade.” As the forex markets never sleep, the development here is likely to continue at a considerable rate.