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2 reasons why these commodity companies could be the best stocks to buy now

Diggers and trucks in a coal mine
Image source: Getty Images.

Key Points

  • Positive forecasts for oil and other commodities should help the best stocks within the sector to outperform
  • Generous dividend yields could provide income potential
  • The high correlation between commodity prices and the share price is a risk

Over the past month, commodity stocks have been performing well. For example, the Anglo American share price is up 17% in the past month, with Rio Tinto also up almost 15%. Stronger commodity prices have helped to spur this move on as we’ve started the new year. Yet when I look further down the line, I think that these type of companies could be some of the best stocks for me to buy now for potential further gains.

A positive outlook 

Firstly, the outlook for many core commodities looks much better than it did last year. For example, Rio Tinto mines a good amount of iron ore. This is consumed in a large part by China, as a component of steel production. Iron ore prices fell through the floor late last summer with concerns about demand from China. This appears to have been just a scare, with iron ore prices now bouncing back. I think that China is still in a good position going forward, so I think iron ore prices can keep pushing higher.

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Oil is another example of a commodity showing strength. The West Texas Intermediate crude benchmark oil price has jumped from $70 per barrel a month ago to trade at $82 currently. This has helped shares of companies like BP and Glencore move higher by double-digits in the past month. If the world economy sees more travel during 2022, then oil should continue to be in demand for refined outputs such as fuel. As a result, it should make these some of the best stocks to buy now.

Income potential from top stocks

A second reason to like commodity stocks is due to the generous dividend yields. When I look at the current yields on offer, most sit well above the FTSE 100 average of 3.32%. In fact, four of the top 10 highest yield stocks are mining companies. This includes Rio Tinto with a current yield of 9.17%.

This yield is one reason why I might want to consider buying now versus later on. One element of the dividend yield calculation is the share price. If the dividend per share stays constant, a higher share price reduces the dividend yield. Therefore, if I think that these companies will do well this year, I’m better off buying now instead of waiting for a few months. 

Risks to consider

It isn’t all good news for commodity stocks. Over a longer one-year period, some of the companies are still in the red. For example, Polymetal International shares are down 29% over this time frame. Therefore, it’s important for me to be selective about which companies I judge to be the best stocks to buy now.

Another risk is that there’s a high correlation between share price movements and commodity prices. So even if the company does everything well internally, it still might see profits decline simply due to lower commodity prices.

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Jon Smith and The Motley Fool UK have no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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