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The future of water is traded in the stock exchange

  • The future of water is traded in the stock exchange

Water is the foundation of life: we cannot question this undeniable truth. Essential for our existence, we depend on water for agriculture and livestock, to produce goods and services, and to generate energy.

Therefore, unsurprisingly, water is a highly valued good, is it not?

According to the 2020 United Nations Water Resources Development Report, entitled "Water and Climate Change", global water use has grown six fold in the last 100 years, and continues to increase at a constant rate of 1% per year, mainly due to economic development, population growth, and changes in consumption patterns.

Climate change also affects water availability, threatening access and fulfilment of the human right to water and sanitation for billions of people. In fact, the UN estimates that currently, some 2.2 billion people lack access to drinking water and 4.2 billion lack a proper sanitation system. This situation is even worse in regions without good water resource management and those suffering the consequences of climate change.

And precisely water stress is what made water reach the next level as a universal asset: be traded in the stock exchange.

The Nasdaq Veles California Water Index

At the same level as oil or gold, water scarcity made this precious asset enter the Wall Street markets with a great start, where since December 7 it is traded in the stock exchange, at US$486.53 per acre-foot on its first day, the equivalent of 1,233 cubic metres in the United States.

Water becoming a traded commodity comes as a result of difficult access to water in certain regions, together with the availability of water at different times of the year, something that has led to price fluctuations. Nasdaq, the second largest electronic and automated stock exchange in the United States, realised the situation, and in 2018 it partnered with Veles Water and WestWater Research to launch the Nasdaq Veles California Water Index (NQH20), the first in the state of California.

Water markets in the Western US (Image: Nasdaq Veles)

The price of each cubic metre of water in California has doubled in the past year, and it seems likely that climate change, population growth, drought and pollution will increase water stress in the region. In fact, according to an article published by ICEX Spain Exports and Investments (the Spanish Institute for Foreign Trade) on the opportunities for growth in California, there is a political will to engage in more sustainable water management to face the great water challenges in the region, which is experiencing severe drought.

Now, this index allows monitoring the spot price of water in the State of California, which represents the current value of water according to the supply and demand, and offers greater management transparency. Moreover, although the index is based on the prices in the main California river basins, the value could be used as a reference for the rest of the world's water markets.

"This index, which has not been created now, but on October 31, 2018, is presented with the current news because the first period to buy futures contracts started on December 7”, explains Gonzalo Delacámara, economist and academic director of the Water Economy Forum, and he adds: "Futures contracts are financial derivatives that reflect a contract between two parties that commit to exchange a water use right on a specific date, at an agreed price. That is, you do not buy water today, but the right to use it in the future".

A safe investment

You can buy and sell practically everything in the stock exchange. That comprises the commodities that many countries need to subsist: the case of cocoa, wheat or rice, whose scarcity or abundance makes prices fluctuate, or oil and gas, needed by many communities to live.

Water is no exception, and although scarcity increases its price, up to now nobody had put a price to it, because, isn't water a public good?

Delacámara explains it this way: "Water is (and must be) a public good. That is reflected in all legislation internationally, including Spanish legislation. What some formal markets recognise is the right to use water. There are experiences with informal markets, that is, transactions between those who need the water and those who have the right to use it in many places in the world, since ancient times. The formal rights markets, in Australia, Chile, or the western U.S. States are that: formal, that is, markets that are regulated by a public entity".

Gonzalo Delacámara at the Water Economy Forum. (Credit: Pablo González Cebrián)

Locken pointed out in an article published in 2017 in iAgua that in some countries it is possible to invest in funds that have part of a river or a lake, as it occurs in Australia. These funds rent the "right to use the water" to companies, and the prices fluctuate depending on the hydrological year, so the water demand is very variable.

In China or South America, water is owned by the government, whereas in other countries you can buy "water rights", a certain amount of water to use for activities related to agriculture or livestock.

There are other options for water investments, such as virtual water, investing in water companies, and exchange traded funds (ETFs). A good example is Michael Burry, an investor that anticipated the 2008 financial crisis and predicted the fall of the American real estate market. Burry focused on a single product, water: "Food is a way to invest in water. That is, you grow food in water-rich areas and you transport it to sell it in water-poor areas. This is the least controversial way to redistribute water; ultimately it must be profitable and ensures sustainable redistribution".

Therefore, based on the fact that water is a precious and finite asset, many experts consider it to be one of the safest and most profitable investments in the long term.

Delacámara notes that, in theory, "this way what you do is you generate incentives for people to be more efficient, because if you have any surplus water rights, you can take them to the market. In addition, this guarantees that a priori the available water gets where it is needed, and you get liquidity in this market, which eventually can finance improvement investments, directed towards resource conservation". However, he warns, "these rights markets can be a conservation tool if they are properly used, which is not always the case".

Although price fluctuations in water are universal, from CME Group, the US financial derivatives and commodities market, they indicate that the value of these stock quotes does not imply a physical delivery of water, but are purely financial data and establish a benchmark for water prices, something that could provide greater transparency, monitoring and price discovery for the water industry and its participants.

Delacámara says: "simplicity is one thing and excessive simplification is another, which in this case should be avoided: what is quoted in this index is not water but the futures contracts for water use and development rights". Therefore, the real value of this index is not as such buying and selling water, but rather it lies in making the expectations of the main water market players known and establishing a relationship between supply and demand in water markets around the world.

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