Key Takeaways

• BOHO spread is 72% positively correlated with D4 RIN price.
• A reduction in biodiesel production margin results in a higher RIN price.
• RIN price is expected to fall about 6.6% by October 2022.

Introduction

The Bean Oil Heating Oil (BO-HO) spread is an indicator describing the relationship between feedstock soybean oil and blendstock heating oil pricing used by the biodiesel industry to gauge costs and margins. This is used to gauge the feasibility of blending renewable or alternative fuels with petroleum fuels. A higher BOHO spread could be caused by a higher Soybean Oil price or a Lower Heating Oil Price. In the former, the higher Soybean Oil prices would mean higher production costs for Biodiesel producers reducing margins, and in the latter case, the Biodiesel would have to be sold in the market at a price comparative to Heating Oil, which would again result in a reduced margin. So, a higher BO-HO spread signals higher biodiesel production costs and reduced margins for producers.

The higher the spread climbs, the more expensive it becomes to produce biodiesel. So, Biodiesel sellers tend to raise the selling price to recoup the losses from poor margins.
Hence, higher BO-HO spread discourages discretionary blending or additional blending of biodiesel above what is required by federal biofuels mandates.

Federal Renewable Fuel Standard

The RFS program is a national policy that requires a certain volume of renewable fuel to replace or reduce the quantity of petroleum-based transportation fuel, heating oil, or jet fuel.

US Environment Protection Agency (EPA) sets annual standards for Obligated parties. Obligated parties under the RFS program are refiners or importers of gasoline or diesel fuel. Compliance is achieved by blending renewable fuels into transportation fuel, or by obtaining credits (called “Renewable Identification Numbers”, or RINs) to meet an EPA-specified Renewable Volume Obligation (RVO). RINs are tradable credits that represent renewable fuels blended with conventional ones and are used to prove compliance with the RFS.

Figure 1: Proposed Renewable Volume Obligation

Methodology

The BO-HO factor is calculated by multiplying the cost of a pound of soybean oil by 7.37 minus the cost of a gallon of blendstock heating oil. 7.37 is the industry standard for the yield for soy methyl ester biodiesel. A comparison of the spread and D4 RIN price revealed a 72% positive correlation.

Figure 2: BOHO Spread Vs D4 RIN Price

Conclusion

Demand for soybean oil has been rising after the US EPA announced its proposed blending mandate for biodiesel would require 2.76 billion gallons of renewable fuel in 2022. This resulted in higher soybean oil prices, but the current rally in fuel prices caused by the Russia-Ukraine war decreased the BOHO spread and hence we can expect to see a slight fall in D4 RIN price.

Future contracts are traded for Soybean Oil and Heating Oil. Using the observed correlation and the available futures contracts settlement price we can arrive at an expected price signal for the RIN price. With settlement prices as of today, the BOHO spread is expected to fall about 6.6% in October 2022 and rise back up 6.63% by July 2023. It can be inferred that we could see a similar movement in the RIN trade price.

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