# Session 4 (PowerPoint) by chenmeixiu

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• pg 1
```									Trading Ratios
1. Opportunities & Constraints
Session 4 in Water
PowerPoint Workbook for            3. Who Trades, Why
a Detailed Assessment of           4. Trading Ratios
Opportunities and Options
5. Credit Generation & Use
Introduction & User Guide (Word)   6. Market Elements, Part One
B. Decision Process                8. Market Models & Framework
C. Stakeholder Identification      9. Tracking
Extra Help
E. Information Management          11. Evaluation
4-1
Making a Market
 This session begins the transition from examining
market feasibility to designing and implementing a credit
market
 It is one of several designed to provide guidance about
the menu of market elements potentially available and
examples of what others have done
 The mandate for trading is to achieve equal or better
ratios are one way to accomplish this

4-2
Making a Market involves these
primary activities:
   Understanding possible “market positions”
   Establishing when water quality “credits”
are created
   Setting rules for credit use
   Calculating and applying any necessary
   Ending up with willing sellers and buyers
   Providing a way to execute trades

4-3

   Calculating and applying any necessary

4-4
 A key principle of trading is achieving equal or better
environmental results with trading as compared to without
 To achieve “equivalency” between a pound reduced at
one location, or from one type of control versus another
location or a different control, trading “ratios” or other
credit adjustment “factors” may be needed
 To the extent the objective of a trading program is to do
better than equivalent, ratios also may be needed

4-5

The Math
   Ratios are expressed as “# : 1”, where
• “#” is the number of pounds of reduction or removal
at the seller’s site needed to equal one pound of
credit toward the buyer’s compliance requirement
•   Mathematically, the number of credits generated
equals the seller’s load reduction divided by “#”
•   Ratios are multiplicative to calculate the net ratio

4-6

A Mathematical Example
 If three ratios are established, and each is 2:1
 Multiply the ratios to calculate the net ratio
 In this case, 2 x 2 x 2 = 8:1
 At an effective trading ratio of 8:1
• the Buyer would receive 1/8 of a pound of credit toward
compliance for every 1 pound reduced by the Seller
•   the Buyer would need 8 pounds of reduction from the Seller
to create one pound of credit
   The result of this calculation is sometimes expressed in
credits or credit pounds.

4-7

Impact of Ratios on Trading Feasibility
   Ratios can significantly affect the marketability of a
given project or action as a credit generator
   For example, if a ratio is increased two-fold, the number
of credits generated is cut in half
   Likewise, if a ratio is halved, the number of credits is
doubled
   This mathematical relationship is intensified because
the factors are multiplicative
   For this reason, the ratios selected should be
appropriately, but not overly, conservative

4-8

Applied on Buyer or Seller Side?
   The term “credit” may be inclusive or exclusive
   Some programs apply the credit on the sellers
side, then call the result a credit
   Other programs define a credit as “one” unit of
the reduction or benefit, then use the ratio to
determine how many credits a buyer needs for
every unit above the baseline

4-9

Example Credit Definitions
   Credit Exclusive of Ratio           Credit Inclusive of Ratio
• Rahr Malting: II.A.2.b.            • Clean Water Services,
The Permittee is                     Schedule D.7.e:
authorized to discharge              One credit shall be defined
CBOD5 in accordance                  as one (1) unit of pollutant
with the following effluent          reduction or other defined
limitations in addition to           environmental performance
those in Part II.A.2.a.              improvement, multiplied by
is the equivalent of                 ratio detailed in the permit
1 pound per day of                   or plans covered by this
CBOD5 discharged.                    permit. The credit is
applied at the location
where compliance with the
baseline is measured, for
the applicable time period.
4-10

Commonly Applied Ratios (or Factors)
   Delivery Ratios
• also called location ratios
• accounts for differences in equivalency between a pound reduced (or
benefit produced) at one location in a waterbody versus another
   Uncertainty Ratios
• accounts for variation in the estimated load reduction or benefit
• often applied in point-nonpoint source trading situations
• may be intended as “margins of safety”
   Situation-Specific Ratios
• relates to pollutant, e.g., bioavailability
• relates to watershed hydrodynamics
   Retirement Ratios
• also sometimes called water quality ratios
• imposes a “tax” on credits to achieve additional reductions beyond
“equivalency”
4-11

   The trading ratio            Examples of point-point
between point sources         trading programs with
normally starts at 1:1 but    ratios that can create
can be altered by other       effective ratios of
something other than 1:1
applicable ratios
Lower Boise River
• delivery                     Connecticut
• attenuation                  Neuse River Compliance
• other                         Association
Virginia Nutrient
Credit Exchange
4-12

• Greater uncertainty in nonpoint source estimates is due to several factors
including but not limited to variability in precipitation, variable
performance of land management practices, time lag between
implementation of some practices and full performance, and the effect of
soils, cover and slope on pollutant load delivery to receiving waters.
• EPA supports a number of approaches to compensate for nonpoint source
uncertainty. These include:
 monitoring to verify load reductions,
 the use of greater than 1:1 trading ratios between nonpoint and point sources,
 using demonstrated performance values or conservative assumptions in
estimating the effectiveness of nonpoint source management practices,
 using site- or trade-specific discount factors, and
 retiring a percentage of nonpoint source reductions for each transaction or a
predetermined number of credits.
• Where appropriate, states and tribes may elect to establish a reserve pool
of credits that would be available to compensate for unanticipated
shortfalls in the quantity of credits that are actually generated.
   Improving the understanding of nonpoint source pollution reduction will result
4-13

Delivery Factors
 Delivery or location ratios account     Examples of Delivery Factors
for differences between the               • Chesapeake Bay Program
environmental value of a mass                 Nutrient Trading Fundamental
one location versus another               •   Connecticut’s Long Island
 These ratios are often called factors         Program
 Oftentimes, programs that have            •   Lower Boise River Phosphorus
such factors have based them on               Trading Program
water quality models that assess          •   Sacramento Regional County
transport and attenuation of                  Sanitation District’s Mercury
pollutants within a water body or             Offset Feasibility Study
segment                                   •   Virginia Nutrient Credit
Exchange Program
 Delivery factors may not always be
explicit, for example if they were
•   WERF’s Nitrogen Credit
used in calculating the assigned              Analysis for a Statewide
4-14
Delivery Factors

Chesapeake Bay States
   EPA’s Chesapeake Bay Program has a
water quality model that calculates
“delivery factors” for every waterbody
segment in the Bay watershed
SELECTED DELIVERY FACTORS
   They account for attenuation during
transport and estimate the quantity of        FROM THE YEAR 2000 SCENARIO
nutrients from sources throughout the       SEGMENT ID #       TN FACTOR        TP FACTOR
Bay that reach the fall line                    300
230
0.3134
0.5872
0.4741
0.9438
   In short, 1 pound of nutrient reduction         100                 0.7568           0.4079
above the fall line is worth less to the        760                 0.8577           0.9635
Bay than 1 pound of reduction below the         490                 1.0000           1.0000
fall line
As illustrated, delivery factors for nitrogen and
• Reductions above the fall line are           phosphorus can be different. By count,
discounted by a factor less than one     approximately half the segments have a
•   Reductions below the fall line are                    delivery factor of 1.
assigned a discount factor of one
   These are periodically updated and
published

4-15
Delivery Factors

Chesapeake Bay States
Delivery Factors Ratios for
   Under the CBP’s system                   Potomac River POTWs (2000)
Delivery Supply   Delivery
• a seller multiplies his credits by         BNR Plant
Celanese
Factors Reduced    Ratio

the delivery factor to determine    Cumberland
George’s Creek
0.59      41%      1.7

how many he has to sell             Ballenger
Emmitsburg
•   dividing the delivery factor into   Frederick City
Taneytown
0.69      31%     1.45
1 produces a “delivery ratio”—      Thurmont
Westminster
the number of pounds of a local     Conococheague
0.75      25%     1.34
reduction that equates to a one     Nicodemus
Fort Ritchie
pound reduction at the fall line    Brunswick
Hagerstown
0.82      18%     1.22

In this example, as in others,
MD Correctional
                                            Damascus

Poolesville       0.84      16%     1.19
Seneca
Blue Plains
ratio is 1:1 when trading                Piscataway
partners have the same                   La Plata
Leonardtown
1        0%       1

delivery factor                          Mattawoman

4-16
Delivery Factors

Long Island Sound
equalize local
reduction to                                              0.19
benefit in Long           0.35
0.60
0.18                     0.15          0.14

Island Sound
   Similar to                 0.46
0.60
0.49
0.20
0.16

Chesapeake Bay                                                   0.22        0.18
Delivery Factors                  0.67             0.60
1-1
1-2
1-3Q
0.85                                                          1-3S
2-1
2-2
2-3
1.00                                                                  2-4
3-1
3-2
4-1
4-2N
4-2H
4-3N
4-3H
5
6
Courtesy Gary Johnson, CT DEP

4-17

Uncertainty Factors
   Typically imposed to          Examples of Uncertainty Factors
compensate for uncertainty in    • Chesapeake Bay Program
   Can be calculated using rules      Principles and Guidelines
of thumb or policy based         • Cherry Creek, Colorado
assumptions                        Phosphorus
• Kalamazoo Michigan
   With sufficient data, can be
calculated considering the       • Lower Boise River Phosphorus
reduction estimate               • Sacramento Regional County
Sanitation District’s Mercury
   Often considered for trades        Offset Feasibility Study
involving nonpoint source-       • WERF’s Nitrogen Credit
generated credits                  Trading in Maryland: A Market
   May sometimes be intended to       Analysis for a Statewide
Framework
represent “margins of safety”
4-18
Uncertainty Factors

Chesapeake Bay Program
   Intended to account for variation in the expected reliability and efficiency of the
source or type of reduction being applied toward credit for another
   Calibrated to create a margin of safety or otherwise attempt to ensure that the
credited practice provides a minimum level of reductions, even if actual
reduction efficiencies and units removed are on the low end of an expected
range—see for example Table D.6 below
   The guidance states that “while it appears uncertainty ratios in the range of 1.5
to 3 [for point-nonpoint source trades] would generally be applicable in the Bay
watershed, it may be necessary to conduct more thorough analyses prior to

4-19
Uncertainty Factors

Kalamazoo Michigan
 Site-specific uncertainty      For a streambank restoration
factors were developed      project, “data were unavailable to
precisely document how much
for each of the proposed         material was added to a
nonpoint source trading     streambank at any given point to
correlate how much was actually
sites                         lost to erosion. A 9% discount
 The maximum estimated       factor was applied to the original
estimate of 80 lb/yr” to arrive at a
annual phosphorus            final discounted load of 73 lb/yr.
reduction was reduced
by a factor based on          Phosphorus Credit Trading in the Kalamazoo
judgment                    River Basin: Forging Nontraditional Partnerships,
Kieser et al, WERF 2000.

4-20
Uncertainty Factors
Sacramento Regional County Sanitation District
   Description and Rationale
• Accounts for uncertainty or variance in the load reduction estimates for a
• Provides reasonable confidence target attained
   Recommendation                                                Cache Creek Settling

• Project-specific                                           Basin Improvements

+ 10%
• Use statistical method                        1.1:1              -
appropriate for MLR                                       Abbott-Turkey Run Mercury Mine Cleanup
Example
   Discussion                           Ratios        2:1          - 50%         + 100%
• Variety of factors contribute                           Sulphur Creek Streambank
to uncertainty: flow, climate,                        Stabilization & Water Treatment

wet weather events,
hydrology, etc.
2:1          - 50%    + 50%

• MLR estimates will rely on                   -100%    -50%           0%        50%      100%
best available data                        UNDERESTIMATE
Example MLR
Estimate Ranges
OVERESTIMATE

4-21

Retirement Factors
 Applied to implement policy-driven       Examples of Retirement Factors
or programmatic decisions to                • Kalamazoo Michigan
require that buyers or sellers                Phosphorus
donate part of all credit purchases              50% retirement
or sales to the state or some other         • Michigan’s Trading Rules
entity that will not apply the credits           10% combined
 Retirement means the credit is              • Pennsylvania State Policy
never used                                       5% retirement
 Some parties who might buy
credits in order to retire them
• States
• Conservancy organizations
• Watershed associations
• Environmental groups
• Private citizens
4-22
Session Wrap Up
   Making a Market involves these
primary activities:
• Understanding possible “market positions”
• Establishing when water quality “credits”
are created
•   Setting rules for credit use
•   Calculating and applying any necessary
•   Ending up with willing sellers and buyers
•   Providing a way to execute trades

4-23
Session Wrap Up
   We addressed these questions in this session
• Are there any ratios required by policy for our
watershed?
•   How do ratios affect feasibility of trading in our
watershed?
•   Do ratios need to be developed for our watershed?
•   If yes, do we have the data and resources to
determine appropriate ratios?

4-24
Our Next Session
Credit Generation & Use
1. Opportunities & Constraints
these topics:
• Understanding possible