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3-Point Checklist: Should You Buy BHP Billiton plc, Rio Tinto plc or Anglo American plc?

The FTSE 100’s big mining stocks, BHP Billiton (LSE: BLT) (NYSE: BBL.US) Rio Tinto (LSE: RIO) (NYSE: RIO.US) and Anglo American (LSE: AAL), have become attractive income plays in recent years — all three offer a prospective yield of more than 5%.

Commodity prices are low at the moment, so now could be a good time to top up — but which of these three mining giants is the best buy in today’s market?

Valuation

All three companies currently trade on similar trailing valuations, but looking ahead with forecast earnings, BHP’s share price benefits from a surprising premium:

 

BHP Billiton

Rio Tinto

Anglo American

Trailing P/E

11.5

10.0

9.7

2015 forecast P/E

15.0

12.1

12.0

Despite BHP’s higher valuation, I think the shares are attractive at the moment. BHP’s low costs and efficiency mean that the firm’s operating margin is currently running at 30%, and its exposure to oil provides useful diversity.

Rio looks cheap, in my view, but I’m less convinced about Anglo American, where I believe the risks of further impairments and downgrades are higher.

Dividend yield

Rio, BHP and Anglo all offer a prospective yield of about 5.3%, so there’s little to choose between them in this regard.

However, the level of earnings cover for these dividends varies widely, with BHP looking more exposed than its peers:

 

BHP Billiton

Rio Tinto

Anglo American

2015 forecast dividend cover

1.25

1.55

1.58

2016 forecast dividend cover

1.18

1.73

2.1

I’m not too concerned by this: BHP has made great progress with cost-cutting and expects to improve efficiency still further following the South32 spin off.

Furthermore, I suspect that the oil price may start to recover in the second half of this year, which could feed through to BHP’s profits in 2016.

Debt

BHP and Rio both took advantage of strong commodity prices over the last two years to reduce debt levels. This has worked out well, as the price of iron ore has fallen heavily this year, reducing both firms’ free cash flow.

Unfortunately, Anglo American didn’t manage to replicate this success, and the South Africa-based firm expects net debt to rise in 2015.

Even without this, the difference in gearing levels (net debt/book value) between these firms is quite noticeable:

 

BHP Billiton

Rio Tinto

Anglo American

Net gearing

31%

27%

45%

Today’s best buy?

I’ve had my eye on Anglo American as a potential turnaround buy for a while, but I’m not sure it’s cheap enough: despite trading slightly below book value, debt levels are high and still rising.

In today’s market, I’d much rather buy Rio and BHP, both of which I reckon look good value, and could deliver decent gains over the next couple of years.

Indeed, the volatile nature of commodity prices can provide rare opportunities to buy quality assets when prices are low.

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Roland Head owns shares in Rio Tinto and BHP Billiton. The Motley Fool UK has no position in any of the shares mentioned. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.