Metals & Mining
Balance sheet risks reduced,
but too early to chase the rally
Dr. Copper not right this time: The short- to
medium-term outlook for metals has changed little in the
last quarter, but equities have rallied 22%, mainly due to
copper prices, which are up 35% (the correlation
between copper and the sector has been 82% in the last
five years). The short-term pricing outlook for most
metals has actually deteriorated marginally, and copper
has been the notable exception, showing strength due to
Chinese SRB buying – we expect this to moderate soon.
We see relatively more value in steel than the miners
currently, although we expect the news flow in both
subsectors to remain unhelpful in the next 3-6 months.
We are changing our house commodity price
estimates: We now forecast a very shallow recovery;
hence, we are cutting our 2010 estimates significantly as
well, although these cuts are offset by our better
cash-flow assumptions.
We downgrade BHP Billiton to Underweight and
Antofagasta to Equal-weight: After the recent
significant outperformance versus the sector,
Antofagasta and BHP are starting to look expensive on a
DCF basis, despite their net cash and low-cost profiles.
As balance sheets in the sector improve, we expect BHP
to suffer from portfolio reallocation. It is also the acquirer
in the sector with associated M&A risks.
Copper is a key catalyst – if it falls as we expect, the
stocks will fall with it: Although copper is only c.20%
of BHP’s NPV, the share price over the last 10 years has
correlated 84% with the copper price. We do not expect
this time to be different, and strong balance sheets are
unlikely to protect BHP Billiton and Antofagasta after the
outperformance versus the sector, in our view.
Balance sheets better – but risks still remain: During
1Q09, companies in the sector have raised equity or
convertible debt to degear and/or to lengthen the
maturity profile of the debt. While we do not believe the
degearing process is complete, the proactive steps
reduce significantly the risk of corporate failures among
the larger miners, in our view.