US refiners face the challenge of making cleaner gasoline as Tier 3 credit prices rise

New York — US refiners say they are compliant with the Tier 3 low-sulfur gasoline standard but it is unclear how many of them can only meet the mandate by purchasing increasingly expensive credits.

US Tier 3 gasoline specifications went into effect on January 1, 2020. This mandate requires US refiners to reduce sulfur in gasoline to 10 ppm from 30 ppm. If refiners cannot make it, they have to buy credits – similar to Renewable Identification Numbers used for renewable fuels – and Tier 3 gasoline credits are holding tight to lofty levels reached in 2019.

One trade-off is that by reducing sulfur in gasoline, octane is also reduced at a time when car manufacturers make cars with higher performance engines requiring more octane.

Today, virtually all US refiners say they are compliant, either by making 10 ppm sulfur gasoline or by having credits to meet the Environmental Protection Administration requirements.

"All our assets are ready for Tier 3," PBF President Matt Lucey said on October 31, 2019.

However, the price of octane has gone up and credit prices continue to rise, according to George Hoekstra, an independent oil consultant who has extensively studied the impact of Tier 3 on the gasoline market.

"All refiners are compliant. But not all refiners are making compliant gasoline," said Hoekstra.

However, sources with knowledge of the situation said that most of the major refiners like Chevron, Valero and Marathon are already complying with Tier 3 gasoline requirements, hence building up Tier 3 credits.

"Tier 3 sulfur credits are [currently] $3,500/credit. They were under $500/credit in 2016," he said. "Much of the increase in the Tier 3 credit price has been in the last few months."

This share rise is supported by Platts Analytics data. In August, Platts Analytics said Tier 3 credits were reported to be trading around $1,990/credit, which is measured in ppm of sulfur per million gallons of gasoline.

Refiner's self-help

Under the law passed in 2014, refiners had a six-year time frame to spread out their capital investments to be able to make enough low-sulfur gasoline to meet demand. Refiners are able to fill the gaps with credits, much like the RINs credits they buy to meet the Renewable Fuel Standard quota.

Some refiners have opted to increase their supply of octane by adding new units or increasing capacities of existing alkylation units, reformers and isomerization units.

US catalytic reforming capacity has increased to 3.49 million b/d in 2019 from 3.39 million b/d in 2016, EIA data shows, providing a ceiling on reformate prices. Reformate barges on the USGC are averaging $2.244/gal so far in the fourth quarter, compared with the $2.199/gal average in the third quarter of 2018.

US alkylate capacity has also grown, to 1.38 million b/d in 2019 compared with the 1.29 million b/d in 2016, according to EIA data, helping mitigate rising octane costs.

The price spread between USGC 87 regular gasoline and USGC 93 premium gasoline octane has become more expensive on the USGC, according to Platts assessments.

Last week, the difference between the two averaged 16 cents/gal, compared with the 11 cents/gal in the same week in 2019, according to Platts assessments.

Some refiners have added hytrotreating capacity, and although increased hydrotreating will reduce sulfur in gasoline, it will also strip out more octane. However, the creation of new hydrotreating catalysts to minimize octane loss have been installed in many refineries will help staunch the octane loss, Platts Analytics said.

Platts Analytics estimates that cat gasoline from the main gasoline-making fluid catalytic cracking unit accounts for about 30% of the US gasoline pool, with reformate, alkylate, naphthas and other components making up the rest.

To pretreat or not to pretreat

But rather than remove octane from the gasoline pool, Hoekstra thinks there is a better way: not to remove sulfur to start with. And one way to do this is pretreat the feed before it is processed in the FCCU.

Some refiners have done that. There is about 1.1 million b/d of fluid catalytic cracking unit feed pre-treating capacity at 28 refineries in the US, which is a total 19% of the total FCCU capacity of 5.3 million b/d.

But most analysts expect there will be some kind of shortfall when the day of reckoning comes, which will require some plants to buy credits.

"While we have not forecasted [Tier 3 credit] prices, I would expect them to stay high and volatile during the early part of 2020. I do think they will stabilize at some point; the question is when, and we don't have a firm answer," said John Auers, senior vice president at Turner, Mason, adding "East Coast and Rocky Mountain regions [refineries] might be the most challenged in regards to compliance."

Hoekstra estimates that Tier 3 credit supply is "miniscule compared to likely demand," which means the prices are expected to rise further.

The actual price paid by refiners will not be realized until the second quarter of 2021, Hoekstra said.

"Refiners will compile sulfur data and come up with their credit liability [at the end of the year]," he added.

"Tier 3 credits will go high enough that some refiners will pay hundreds of millions of dollars for them in 2020, 2021 and 2022. It will be similar to how the RINs issue played out," he added.