BHP Billiton (LSE: BLT) (NYSE: BBL.US) and Rio Tinto (LSE: RIO) (NYSE: RIO.US) have been stocks to avoid in 2014, falling 25% and 14% respectively.
2015 is likely to test their mettle as well. So what are their chances of making you rich next year?
Cycle Of Life
The mining sector is traditionally one of the most volatile of all, with share prices shooting up or down depending on the latest news from China. Lately, the movements have been mostly downwards.
China’s 30-year export-led growth phase is now drawing to a close, hastened by Chinese premier Li Keqiang’s all-too-late attempts to rein in the credit and property bubbles, and stop China from acting as a sponge for Western liquidity.
Where China goes, so goes the commodity supercycle. That appears to have ground to a halt, along with BHP Billiton and Rio Tinto’s growth prospects.
High On Their Own Supply
With commodities are priced in dollars, the strengthening greenback is another headwind, forcing up prices for non-dollar buyers.
BHP and Rio have also been playing a dangerous game, ramping up supply to new highs, even as demand plunges. But management isn’t daft, they are willing to take a short-term hit on prices, if it means driving out low-margin competition.
And they are simultaneously cutting costs and capital expenditure, strengthening their balance sheets to position themselves for life beyond the supercycle.
This will be a world where demand is lower, but ultimately supply is lower as well, which should force prices up in time. If you buy either of these mining companies now, you are backing management’s gamble.
Trouble In Store
Recent price falls are the most compelling reason to buy these two stocks, with BHP Billiton now trading at 8.2 times earnings, and yielding a whopping 5.8%. It doesn’t seem that long ago when the yield was closer to 3%.
But earnings per share (EPS) are forecast to fall 21% in the year to 30 June 2015, pointing at a difficult year ahead.
You can buy Rio Tinto at 7.9 times earnings, with a 4.4% yield. Again, EPS are forecast to fall in 2015, by 12%.
With Chinese factory output continuing to disappoint, further squeezing demand from their biggest customer, next year will be another tough one.
At today’s reduced prices, however, much of the negative sentiment is priced in. But I suspect 2015 will be a year of shocks, and BHP Billiton and Rio Tinto will be vulnerable to all of them.