Analysis: RINs overreact to RVO, challenges loom

OREANDA-NEWS. December 04, 2015. The RINs market rally following the US Environmental Protection Agency's (EPA) finalized 2014-2016 renewable fuels requirements release this week may be an overreaction given the surplus of 2015 RINs.

Conversely, the market may also be underestimating the need for RINs in 2016, as the new mandate will breach the 10pc ethanol (E10) blendwall by nearly 2pc.

US gasoline consumption this year is on pace to come in at just over 140bn USG, making for a E10 blendwall of just over 14bn USG. With average ethanol production of 982,000 b/d, the US ethanol industry is churning out over 41.2mn renewable fuel D6 RINs each day, putting it on pace to reach 14.73bn RINs this year. That's well in excess of the 14.05bn USG 2015 requirement set out on Monday.

Yet the post-announcement rally of the RINs market belies this RIN surplus, particularly given that D6 RINs have increased sharpest, trading as high as 90?/RIN on Tuesday and compressing inter-category RIN spreads. RIN prices have since fallen, trading around 77.5?/RIN today.

It's unlikely the entire market was caught short by the announcement, particularly as the EPA had previously said it understated Renewable Volume Obligations (RVOs) by 400mn USG and raised the 2016 conventional ethanol RVO. The move also afforded the EPA the convenient opportunity to avoid triggering the reset clause for corn ethanol.

But even as the marketplace now has the rare certainty of finalized RVOs, uncertainty in the form of two wild cards — RIN retirement accounting and the RIN bank — is adding a significant risk premium to the market.

An unknown volume of RINs will need to be retired for export purposes between now and the 1 June 2016 revised attest reporting deadline, which perhaps misstates the size of the RIN surplus. US ethanol exports are on pace to top 19.2mn bl this year, or 807mn D6 RINs worth, and Asian demand has proven particularly strong at the close of the year. Next year's true ups for 2015 RIN accounting will give a much better indication on whether 90? RIN prices are warranted.

The RIN bank is an even larger enigma for RIN accountants to crack since it is an individual business decision for each obligated party regarding how much of their 20pc carryover capacity to use each compliance year. If it is assumed full use will be made for both 2015 and 2016, then the RIN bank will be drawn down by just 90mn D6 credits, making for a total of 236mn RINs if full use of carryover is made for each RIN category.

The handling of carryover RINs has enormous implications for RIN supply and demand dynamics at the margin. If, for example, the industry plans to make full use of carryover into 2016, using only 10pc of its 2014 carryover into 2015 would result in a shortfall of 1.758bn RINs. If full use of 2014 carryover was made the shortfall would be only 130mn RINs.

The math for 2016 is starker than the 10.1pc percentage standard implies. The E10 ethanol blendwall will not be exceed by 0.1pc, but rather 2pc. The E10 blendwall for 2016 will come in around 14.21bn USG against a conventional ethanol requirement of 14.5bn USG, a shortfall of 290mn USG which will need to be met with carryover RINs from 2015.?With the blendwall once again front and center and limited availability of higher blends such as E85, the industry will turn to biodiesel as a blendwall buster. Yet next year may see the imposition of a biodiesel tax credit (BTC) in the form of a producers' credit. While, in this form, the \\$1/USG BTC will encourage domestic production, it may back out imports of biodiesel and could ultimately require higher RIN prices to encourage blending. The US is on pace to import over 7mn bl of biodiesel this year, or roughly 440mn D4 RINs worth of fuel.

Given the current rally, the market would do well to remember lessons learned in the past. In times of heavy buying, vintage and RIN categories matter less so buyers will try to acquire any RIN they can get. And while high RVO prices prompted the EPA revise standards in the past, with the US consumer little impacted by Nymex RBOB at just over \\$1.29/USG, a revision of the RVO seems unlikely.