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Welcome to the Future - Sulfur Credit Investments Pay Off 10-Fold for Forward-Looking Refiners

The price of the Tier 3 gasoline sulfur credit hit $3,600 in October, up by a factor of 10 from two years ago and roughly in line with the all-time highs seen in late 2019. This tradable credit allows refiners to sell gasoline that exceeds the sulfur specification on gasoline sold in the U.S. In today’s RBN blog, we examine what’s behind the credit’s steep and steady rise — and why it matters. 

Implemented in 2014 with initial phase-in beginning in 2017 and full implementation in 2020, the Tier 3 gasoline sulfur standard requires that all refiners and importers that deliver gasoline to the U.S. market must meet a 10-parts-per-million (ppm) sulfur specification as an annual average, compared with 30 ppm under the previous Tier 2 specs. But the Tier 3 story is really about two tightly coupled gasoline quality specifications: sulfur and octane. Many U.S. refineries are unable to desulfurize gasoline down to 10 ppm without also downgrading the octane of their gasoline pool. This has become a critical new bottleneck in gasoline production in North America that is reducing gasoline supply, increasing prices and affecting refiners’ profitability. The sulfur credit price soared in late 2019 and early 2020 in anticipation of the new rule, before falling as credit demand came in lower than expected. This lower credit demand was due largely to low gasoline demand (during the worst of COVID) and lower-than-expected octane losses in gasoline hydrotreaters — mostly due to catalyst improvements.

One year ago, our four-part Breaking the Chains series told the full Tier 3 story, first by explaining octane and gasoline blending (Part 1), then the octane/sulfur bottleneck (Part 2), the alternatives available to refiners (Part 3), and the sulfur credit system (Part 4). Today we’ll focus on what has happened recently with the sulfur credit price, which is effectively the cost of Tier 3 compliance. That’s because buying a sulfur credit does nothing more than relieve the refiner of the cost of their next-best alternative for compliance. It follows that the next-best alternative must be costing that refiner at least the price they’re willing to pay for the credit.

Without getting too deep into the details of the sulfur credit system (see Part 4 for the nitty gritty), we can attach a tangible meaning to the credit price with the following example. Consider a single refinery producing 100 Mb/d of gasoline. At the beginning of 2022, instead of making 10 ppm sulfur for that year, let’s assume that refinery opted to make 30 ppm sulfur for the whole year and offset it by buying $11 million worth of credits.

Here’s the calculation of that $11 million credit cost. (In this calculation, we have highlighted the credit price to emphasize it was $360 at the start of 2022, and its unit of measure is dollars per million ppm-gallons; 1 million is expressed in the equation as 106.) 

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