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EPA Tosses Refiners a Major Biofuels Win

Agency considers lowering the ethanol and biofuels blending requirements

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In a leaked document to news agencies Bloomberg and Reuters, the department has stated that the blend wall as an “important reality.” In acknowledgement of the phenomenon, the EPA is potentially drafting new rules that will cut the amount mandated corn-based ethanol and advanced biofuels down to just 13 billion and 2.21 gallons, respectively.

The agency is also looking at drastically dropping the Energy Policy Act’s requirement for cellulosic fuels — those produced from scrap wood or corn husks — to just 23 million gallons. That’s down from 1.75 billion gallons, as the technology hasn’t been up to snuff.

All in all, the fact that the EPA is considering changing the rules for ethanol is huge win for the refiners.

The EPA only issues a set amount of credits, and then they trade on the open market. Refiners have been scrambling to secure RINs as the blend wall is fast approaching. The costs of these credits for not complying with the Energy Policy Act have surged — from just 1.5 cents to more than $1.10 since 2012.

So far, the costs of these credits have only just begun to hurt earnings at some of the major downstream players like Western Refining (WNR). However, hitting and surpassing the blend wall could severely impact the sector’s chances.

Two Ways to Play

Given that the EPA is considering scaling down our nation’s biofuel and ethanol efforts, investors once again have the green light to buy refiners.

Profit margins for many of these firms should pop if the plan is implemented and the downstream players won’t have to purchase some many RIN credits. For example, smaller refiner Alon USA Partners (ALDW) estimated RIN costs are around $20 million, while refining kingpin and my personal favorite Valero (VLO) is in the $800 million range.

That’s some pretty substantial coin that could trickle back down to shareholders. In Alon’s case, analysts estimate that expense removal could add an additional 24 cents to its distribution this year. And given the recent widening WTI-Brent crack spread, investors in the sector could be handsomely reward. Buying the sector and stocks like Marathon Petroleum (MPC) make a lot of sense.

On the flipside, if you’re a more aggressive investor, shorting several of the ethanol and advanced biofuel names — Pacific, BioFuel Energy (BIOF), Gevo (GEVO), KiOR (KIOR) etc. — might prove to be especially fruitful. If the EPA is successful at lowering the standards, much of these firms could have a hard time getting there products into market.

Considering that many aren’t profitable, this could mean another round of bankruptcies in the future. But for the refiners, it looks like smooth sailing.

As of this writing, Aaron Levitt did not hold a position in any of the aforementioned securities.

Article printed from InvestorPlace Media,

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