Why I’m considering buying Rio Tinto plc and Anglo American plc

Investors in the mining sector have had an especially hard time over the past 12 months. Shares in some of the world’s largest mining companies have collapsed to levels not seen since the financial crisis, dividends have been slashed, and talk of rights issues has stalked the sector.

Now, it seems that some normality is returning to the industry. Even though commodity markets remain oversupplied, and commodity prices are still depressed, miners have reacted quickly to the downturn and investors are returning to the sector. 

That’s why I’m attracted to Anglo American (LSE: AAL) and Rio Tinto (LSE: RIO). Granted, these miners may not have the appealing growth outlooks they had four or five years ago, but they look to be attractive recovery plays. 

Pulling out all the stops 

Rio Tinto really has pulled out all the stops to maintain its competitive advantages in the current market environment. The company has slashed capital and operating spend to the bare bones, reducing capital outflows. These cuts have helped the group reduce its already sector-leading cash costs of production. At some of the company’s mines, the cost of producing one ton of iron ore has now fallen to less than $30. 

Even the most bearish City analysts believe that the price of iron ore won’t fall much lower than $42 per ton in the near term. So, based on these figures it looks as if Rio is well placed to ride out the commodities downturn.

Management has also committed to buy back $1.8bn in debt from bondholders this week, following the $1.5bn buyback programme conducted earlier this year. 

Rio’s shares currently trade at a forward P/E of 17.1 and support a dividend yield of 4.1%. City analysts expect the company to return to growth next year with earnings per share growth of 7% predicted.

Building up cash balances 

Like Rio, Anglo has worked hard to cut costs and improve operating efficiency over the past 12 months. Unfortunately for income investors, the company cut its dividend earlier this year to save cash, but this should be good news for long-term investors. 

While the company does need higher commodity prices to return to its former glory, management is working hard to trim and clean up the miner’s portfolio, which should speed up Anglo’s recovery when commodity prices return to more normal levels. 

It has been reported over the past two weeks that Anglo is close to selling its Queensland metallurgical coal assets for around $1.8bn. This deal should help further lower the company’s debt and shore up the group’s balance sheet, helping Anglo to ride out the commodities downturn. 

City analysts expect the company’s earnings to fall by 38% this year, before rebounding by 38% for the year ending 31 December 2017. On this basis, the company trades at a 2017 P/E of 17. What’s more, analysts expect Anglo to restart dividend payments again next year. An initial yield of 0.5% has been pencilled-in for 2017.