So, this week has seen a bit of a wobble, hasn’t it?
It is no secret that we have been on a bull run since 2009. Some investors are nervous, and a lot of shares are too pricey right now (ARM, I’m looking at you). However, pockets of good value can still be found – it just requires a bit more digging than it did three or four years ago.
International mining company Rio Tinto (LSE: RIO) (NYSE: RIO.US) may be one of those more appropriately valued shares. What’s more, it is frequently cited by brokers as their top pick in the mining sector due to its scale, infrastructure and competitive moats.
Currently sitting on a rolling price/earnings ratio of just 9.5 (compared to its historical P/E of 11.7), and paying a progressive and well-covered dividend yield of around 4%, I’d suggest that the mining company is due a rerating over the short to medium term.
What Iron Ore Problem?
Rio’s core iron ore business has gone from strength to strength in recent times, with robust divisional management and prudent cost-cutting initiatives helping the bottom line. Impressive, considering iron ore prices recently touched a five-year low of $78.60 per ton.
The low-cost nature of Rio’s iron ore business naturally protects it from falling prices, turning tough conditions into something of a positive – if prices continue to drop, higher-cost operators will leave the market, meaning that when the upswing comes Rio will be there to pick up the pieces with reduced competition.
The division recently recorded another record quarter in its iron ore division, with production rising 5% and shipping up a considerable 18%. Although prices may continue to fall, Rio has enough in its arsenal to navigate those waters safely.
Glencore Rebuffed
This strong performance at a relatively cheap valuation has not gone unnoticed. Earlier this month it came to light that Rio management had rebuffed a merger approach from fellow miner Glencore. The resulting entity would have been the largest miner in the world. Rio management concluded that the proposed deal would not be in the best interests of its shareholders, and so they walked away.
Two positives can be drawn from this conclusion:
- Rio’s management are confident in their turnaround strategy and are focusing on shareholder. As chairman Jan du Pleiss elaborated on the decision:
“The board believes that the continued successful execution of Rio Tinto’s strategy will allow Rio Tinto to increase free cash flow significantly in the near term and materially increase returns to shareholders.”
- Even if the market has forgotten that Rio is a good company, its rivals, who arguably understand it better than anyone, have not.
So to my mind, Rio looks to be both a good short-term and long-term investment and its current share price represents an attractive entry point.