US refiners may see Q2 profit recover on stronger diesel margins

U.S. refiners are expected to report higher second-quarter profits, recovering from first-quarter losses, primarily driven by unseasonably strong diesel margins. While profits are anticipated to be lower than record 2022 levels, diesel crack spreads averaged $17 per barrel and ended Q2 at $21 per barrel, supported by low distillate inventories and robust exports. Analysts, including TD Cowen's Jason Gabelman, note this 'counter-seasonal' strength, with elevated margins potentially persisting until autumn maintenance, benefiting companies like Valero, Marathon Petroleum, and Phillips 66, despite their Q2 EPS forecasts being down year-over-year.

Analysis

U.S. refiners are positioned for a significant second-quarter earnings recovery, rebounding from losses reported in the first quarter, driven by unexpectedly strong and counter-seasonal diesel margins. This strength is evidenced by diesel cracks that averaged $17 per barrel during Q2 and exited the period higher at $21 per barrel. The favorable margin environment is underpinned by fundamental factors, including U.S. distillate inventories falling to five-year lows due to robust export demand and lower refinery yields from a lighter crude slate. Despite this sequential improvement, which has propelled refiner stocks up 20% year-to-date, profitability is expected to remain below the record levels of the prior year. For instance, Marathon Petroleum is forecast to report a $3.28 EPS, a substantial improvement from its Q1 loss but down from $4.12 a year ago, with similar year-over-year declines expected for Valero and Phillips 66. Analyst commentary suggests these elevated margins could persist until autumn maintenance, providing a continued tailwind for the sector's near-term performance.

Key Decisions for Investors

• Investors should recognize the near-term bullish catalyst for the refining sector, as surprisingly strong diesel margins are expected to drive a significant sequential earnings rebound and may persist until autumn.
• It is crucial to balance this positive short-term outlook with the reality of lower year-over-year earnings, as forecasted EPS for Valero, Marathon, and Phillips 66 remain below prior-year levels, indicating that peak profitability is not being repeated.
• Key metrics to monitor for sustained momentum include diesel crack spreads, U.S. distillate inventory reports, and export volumes, as these factors are the primary drivers of the current margin strength.