Liam Denning is a Bloomberg Gadfly columnist covering energy, mining and commodities. He previously was the editor of the Wall Street Journal's "Heard on the Street" column. Before that, he wrote for the Financial Times' Lex column. He has also worked as an investment banker and consultant.

Valero Energy is doing a pretty good impression of an oil major. Which should make oil majors nervous.

Valero doesn't produce oil, it just refines and markets it. Traditionally, the business of processing oil has been the poor relation to the upstream side of the industry. But with the glut in gasoline and diesel weighing on the outlook for crude oil, downstream is in the spotlight for all the wrong reasons.

Before Valero updated investors on Tuesday morning, across the Atlantic BP kicked off earnings season for the majors. As I laid out here on Monday, BP, along with all its peers, has been relying on strong downstream profits to help offset some of the pain in the upstream business -- a reliance that can't last forever. And sure enough, BP's profit in the downstream business dropped by almost a fifth compared to the second quarter of 2015.

Valero's update suggests the pressure isn't going to let up soon.

While Valero beat the consensus forecast, it's worth noting that Wall Street expectations had modified somewhat in recent weeks.

Faith No More
As recently as June, the earnings forecast for Valero's second quarter was double where it finally came in
Source: Bloomberg

But what's done is done. More pertinent is Valero's outlook: what it's saying and what it's doing.

First, the words. Valero was unequivocal. Its own gross refining margin in the quarter was roughly a third lower than a year earlier. On the call, the company said some refineries would have to temporarily shut down ("run cuts" in the industry jargon) in the third and fourth quarter to help clear the glut and help margins recover. Whether and when refiners decide to actually take that step is uncertain, but it suggests strongly that global crude oil demand -- which may be overstated already -- could come under pressure this fall and winter.

Valero's actions reinforce the sense it's hunkering down. In particular, it is doing something more typical of the majors: paying investors to stick around. So far this year, Valero has paid out $1.23 billion in dividends and buybacks, more than 1.5 times its earnings and (if annualized) equivalent to a 10 percent yield on its market capitalization.

Stick With Us
Despite the collapse in refining margins, Valero has upped its payout
Source: Bloomberg, the company

Despite the inherent volatility of the refining business, Valero went out of its way to call its dividend "non discretionary" -- which translates as "Don't worry, we got this."

Do they? So far, it seems Valero does. In contrast to the oil majors -- let alone the independent E&P companies -- its leverage has held pretty steady so far this year at about 20 percent. Valero's relative caution, along with a Chevron-like 4 percent dividend yield, should meet with investors' approval -- even if it also implies a rocky second half for the global oil business.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
Liam Denning in San Francisco at

To contact the editor responsible for this story:
Mark Gongloff at