Rio Tinto Set for Rebound

LONDON -- Despite the recent volatility in the markets, analysts have been inking in higher forecasts.

Last week Credit Suisse increased its year-end target for the FTSE 100 from 7,000 to 7,100. JPMorgan Cazenove recommends exploiting the volatility by buying on the dips. Deutsche Bank reiterated the attractive absolute and relative returns of equities. The consensus is that central banks will keep printing money for a while yet.

Just the week before, the head of Sterling at Pimco, the world's largest bond house, made headlines by forecasting that incoming Bank of England Governor Mark Carney could devalue the pound by as much as 15% against the U.S. dollar. Hedge funds are calling it the "Carney short".

High beta
Put those two forecasts together, and it augurs well for cyclical high-beta shares on low valuations that generate their revenues and dividends in dollars. Step forward Rio Tinto  (LSE: RIO  ) (NYSE: RIO  ) , the diversified miner that's languishing on a prospective P/E of just 7.8, with its projected yield at 4.5%.

Rio's historic yield is a more modest 3.8%, so the bigger expected payout could easily be overlooked. With most of Rio's sales in dollars, the miner's policy is to increase the dollar-denominated value of its dividends over time.

Share price
Some of the forecast increase in yield no doubt builds in expectations of sterling softening. But with market-leading pundits seeing a further devaluation from the new Governor, there could be an even bigger boost. But rather than taking Rio to the top of the dividend league table, which isn't a place usually associated with miners, a higher sterling-denominated dividend is more likely to be reflected by a stronger share price.

There's a reason the miners currently look cheap relative to the wider market. Mining's great super-cycle is ending, as growth in China (especially) slows and turns from infrastructure to consumption.

Across the sector, big expansion projects are being mothballed, capital expenditure programmes are being cut, and operating costs are being slashed. New management has been brought in, too, replacing slick-talking deal-makers with hard-hatted operational managers.

In Rio's case, former divisional boss Sam Walsh now has the top job. He has streamlined management and instituted a cost-cutting programme. But he hasn't, as yet, scaled back expansion of Rio's giant Pilbara iron-ore mine.

At first sight, that looks counter-intuitive. Iron ore is suffering from the woes of cyclical sectors: just as demand is easing, new production is coming on-stream. But Rio, which gets some 70%-80% of its earnings from iron ore, is a low-cost producer with vast reserves. It will cope with any downturn better than competitors.

Put that together with the group's diversified operations in safe places such as Australia and North America, and you have a quality stock. One that could be set to rebound if the pundits are right.

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  • Report this Comment On June 11, 2013, at 4:16 PM, andyjpm wrote:

    Smart stock to own for the long run, RIO has a lot of upside potential not to mention a decent dividend.

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