Carbon Market Outlooks Dashboard Preview

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The LCFS program is a market-based system where demand for credits is driven by the demand for fuels with CIs greater than the benchmark value and the supply of credits comes from fuels with CIs below the benchmark value. Currently, the deficit-generating fuels are the petroleum portions of gasoline and diesel (CARBOB and ULSD respectively). Additional fuels will become deficit-generating in future years as the benchmark standards are reduced below the CIs of those fuels.

For more background information on the California LCFS, read our “LCFS 101” primer.

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Stillwater’s outlook for LCFS credit prices is based on our deep historical knowledge of the LCFS program, the LCFS credit market, and its supply and demand fundamentals. 

This outlook is built upon four primary elements:

1. Our assumptions around the LCFS regulation going forward
2. Our projections of the demand for covered transportation fuels
3. Our projections of the supply and environmental attributes of low carbon intensity (CI) transportation fuels
4. Our proprietary quantitative model that has been extensively tested against the history of LCFS credit market prices

Concerning regulatory assumptions, we analyze CARB’s typical regulatory behavior, recent public workshops and proposals, historical trends, and the program’s impact on transportation fuels markets to inform our view. When we see alternative regulatory options under consideration that would be significant, we develop an alternate set of regulatory assumptions for a separate credit price case in addition to our three primary cases.

In developing our demand methodology, we review forecasts and methodologies including those created by the California Air Resources Board (CARB), the California Energy Commission (CEC), the U.S. Environmental Protection Agency (EPA), and the Energy Information Administration (EIA). Stillwater’s methodology estimates total vehicle miles traveled (VMT) and attributes fuel demand by type based upon vehicle population. Since the future mix of transportation fuel demand is a critical assumption in future LCFS credit pricing, we develop alternate demand cases to form the foundational difference for our primary cases.

Our outlook for the supply and environmental attributes of low CI transportation fuels is developed based on each unique fuel type, the demand for the fuel, feedstocks available and used for the fuel, and current and future production capacity for the fuel.

These informed assumptions around future regulatory evolution, transportation fuel demand, and availability of low-CI fuel supply are the primary inputs used to develop Stillwater’s estimate of the credit balance for each year. We then use the credit bank and other key indicators to guide the estimate of future credit prices through application of our proprietary multivariant linear regression model. Our model is periodically validated by populating it with historic information to “back cast” LCFS credit prices. Despite the dynamic LCFS market, Stillwater’s proprietary model has a highly correlated R-squared of 0.86 with a standard error of $19 per metric ton (MT) when compared to historic actual credit prices.

Stillwater’s outlook for LCFS credit prices through 2035 is built on the following assumptions:

For background information on the current LCFS regulation, read our “LCFS 101” primer.

The California Air Resources Board (CARB) is considering amendments to the LCFS program. Below is our assessment of a likely amendment package given information provided in CARB’s public workshops.

Stillwater’s approach to the price outlook begins with identifying variables that may affect LCFS prices by using statistical analysis to determine the extent, if any, that each variable has historically correlated with LCFS market prices. The most significant variables are used to construct a multivariate linear regression model to project future prices based on forecast values for each model variable. The model is periodically validated by populating it with historic information to “backcast” LCFS prices. Despite the dynamic LCFS market, the model’s R-squared is 0.86[1] with a standard error of $19/MT.[2] The favorable results may be surprising given the significant LCFS price volatility, but Stillwater’s model can explain the volatility. For example, the model would have accurately predicted depressed LCFS prices with the knowledge of the planned substantial increases in RD production. RD production sharply increased in response to high LCFS prices resulting in an oversupply of credits and, consequently, lower prices. 

[1] R-squared is a statistical measure that estimates that our model explains approximately 86% of the variability in quarterly average LCFS credit prices over the time frame used to calibrate our model.

[2] The standard error is a statistical measure of the expected accuracy of each price prediction; the standard error of $19/MT implies a 68% confidence that our price prediction will be within ±$19 of the actual value and a 95% confidence that our price predictions will be within ±$38/MT of the actual value.

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Stillwater developed three gasoline demand cases to span a range of possible outcomes. The factors incorporated into our methodology to develop the projections include:  

1. Vehicle fleet makeup and size,  
2. Vehicle miles travelled (VMT),  
3. On-road fleet fuel efficiency improvements,  
4. California Department of Finance population forecast,  
5. California’s historical success in meeting its goals and mandates, and  
6. The elasticity of fuel demand to fuel prices.                      

In developing our California gasoline demand methodology, we have reviewed several forecasts and methodologies including those created by CARB, the California Energy Commission (CEC), the U.S. Environmental Protection Agency (EPA), and the Energy Information Administration (EIA). Stillwater’s methodology uses EPA-reported sales-weighted fuel economy proportions applied to California new vehicle sales and California Department of Motor Vehicles (DMV) total populations to estimate total VMT from the LCFS reported total fuel sales. EV sales data is provided by the CEC and the California New Car Dealers Association. Our methodology is always tested against historical gasoline demand in California.

Stillwater’s three gasoline cases and their basic assumptions are: 

Since gasoline is a blend of CARBOB and ethanol with CARBOB being high CI and deficit generating and ethanol being low CI and credit generating, the CARBOB portion of the three Gasoline cases are displayed in the CARBOB Demand figure below.

Stillwater also developed three liquid diesel (total of fossil ULSD, RD, and BD) demand cases with the following basic assumptions:

The ULSD demand for each diesel demand case is derived by subtracting the portion of the diesel demand that is fulfilled by BD and RD in each of the cases with adjustment for the lower per-gallon energy contents of BD and RD relative to ULSD. The fossil diesel portion of these three cases, which creates the demand for credits, is displayed in the ULSD Demand figure below.

In addition to the deficits that are calculated from the difference in the benchmark and the fuel for CARBOB and ULSD derived from petroleum, the LCFS regulation provides for additional deficits to be calculated for the volumes of CARBOB and ULSD if the rolling three-year volume weighted average CI of crude oil processed in California exceeds the CI of the 2010 baseline crude CI by greater than 0.1 grams of CO2 equivalent emissions per megajoule of fuel (gCO2e/MJ) or, more simply, g/MJ. In that case, the difference between the two becomes the incremental crude deficit carbon intensity (ICD-CI) applied to all CARBOB and ULSD. We estimate that the ICD-CI applied to CARBOB and ULSD based on the three-year average crude CI will increase to 1.28 g/MJ in 2028 before declining to 0.96 g/MJ in 2035.  

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The underlying rationale of the LCFS is that, by providing a structure which allows the market to pick the mix of fuels used to comply with the regulations, the mandated CI reduction targets can be achieved at the lowest cost. The way in which this occurs is best considered by looking separately at the near-term and the long-term pathways to compliance. The near-term is dominated by the mix of fuels which can be used to fuel vehicles already in service in California, while the long-term allows time for the fleet to convert to vehicles capable of utilizing a different, lower-CI mix of fuels.

The figure below highlights our assumptions concerning the supply of low-carbon fuels which will generate LCFS credits through 2035.

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Stillwater’s quantitative LCFS model uses the above assessments to estimate the credit balance for each year from 2024 through 2035.

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After developing an outlook for annual credit balances for each case, the next step is to produce Stillwater’s outlook for credit prices. This price outlook considers (1) the expected value of the credit price cap, which sets the overall price ceiling; (2) the expected net credit balance for each year of the forecast; and (3) Stillwater’s estimate of other key parameters which have been found to influence prices in the LCFS credit market. The combination of the annual credit balances and additional regulatory and market factors are then used to establish our LCFS credit price outlook cases.

The table below displays Stillwater’s Base, High, Low, and Accelerated LCFS credit price scenarios, expressed in dollars per MT.

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The following figure compares our current Base case outlook with our three previous quarterly Base Case outlooks.

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CARB’s role in influencing future credit and deficit generation is significant. The regulation has been amended roughly every three years, with CARB adding credit-generating categories or mechanisms, and/or changing the CI-reduction targets to achieve the program’s goals without causing a disruption for consumers. Through amendments, CARB can “steer” the elements that impact the credit price. We expect additional credit generation provisions to be added in amendments over the forecast period as CARB seeks to maximize achieved GHG reductions while maintaining credit prices at a level which supports new investment but not so high as to cause a political backlash against the program.