What the federal government ends up doing about the proposed amount of biodiesel and ethanol to be blended into the nation’s fuel supply will have an effect on the valuable renewable identification numbers (RINs) used by blenders and fuel producers. This report from the University of Illinois is the latest in the series of articles from the school’s Ag and Consumer Economics expert Scott Irwin, which tries to predict what RINs will do in the short and long term. In the article, Irwin explains that when the amount of ethanol required to be blended under Renewable Fuel Standard (RFS) hits and exceeds the so-called E10 blend wall (10 percent of the entire country’s transportation gasoline usage), then biodiesel becomes a de facto substitute for the ethanol RINs.
Since the level of D4 biodiesel RINs prices drives the level of D6 ethanol RINs prices when the renewable mandate exceeds the E10 blend wall, it is important to understand the drivers of the level of D4 prices. In this regard it is helpful to think of the price of a D4 biodiesel RINs as consisting of two components–intrinsic and time value. The intrinsic value is given by the current biodiesel blending margin, while the time value reflects the chance that blending margins will be even larger (bigger losses) in the future. The typical split between intrinsic and time value of D4 RINS in recent years has been about 60/40. The empirical analysis highlights the key role of three factors in driving D4 prices: i) soybean oil prices; ii) diesel prices; and ii) the $1 per gallon blenders tax credit. Soybean oil prices are the primary driver of biodiesel prices, which together with diesel prices determine the blending margin. The (negative) blending margin for biodiesel has been unusually low in 2014 due to declining soybean oil and biodiesel prices, as well as relatively stable diesel prices. The on- and off-again nature of the blenders tax credit introduces considerable uncertainty into the pricing of D4 biodiesel RINs. It appears that RINs traders currently believe there is a low probability of the tax credit being reinstated retroactively for 2014, otherwise D4 prices and time values would be much lower. There is the potential for a precipitous decline in D4 RINs prices if the market is surprised and the tax credit is eventually reinstated.
The analysis also states that what is making the issue even more complicated is the uncertainty of what the Environmental Protection Agency (EPA) will actually do after proposing a year ago to drastically cut the RFS numbers for both ethanol and biodiesel. While a final answer was promised for last summer, speculation is that EPA might now wait until after the November elections.