A year ago, many were attracted to the big mining firms because of high dividend yields and low forward price-to- earnings ratios.
BHP Billiton (LSE: BLT), Rio Tinto (LSE: RIO) and Anglo American (LSE: AAL) looked attractive on traditional valuation measures. However, I was bearish on the firms and explained why in an article published on 12 January 2015.
Today, with the shares of those firms much lower than they were a year ago, I’m still bearish and think it’s too soon to revisit the sector. The crucial ‘buy’ signal is missing today, just as it was a year ago.
The thrust of my article last year was that it’s better to think of the miners as cyclical firms through-and-through. What their businesses produce has low differentiation and little added value. As such, the commodity companies have almost no pricing power.
The problem with cyclical firms for investors is that valuation indicators tend to present upside down. The big miners can look the most attractive on valuation grounds just at the point when they’re the most dangerous – just before the next profit and share price collapse, as we’ve seen lately. It’s therefore risky to justify an investment through the lens of traditional value or income measures.
Instead, it makes sense to me to wait for the signal of momentum before buying. At the very least, I want to see flatlining charts for the big miners’ share prices and for the underlying commodities that they produce. Ideally, the charts will be turning up, providing evidence that the bottom of the fall in prices might already have occurred.
Beware false signals
I would argue now that a return to the big miners is an investment decision that has no urgency. I’m not expecting the miners to snap back up fast, so I’ll look for evidence of a turn in the commodity markets over months, perhaps even years, rather than weeks. I was wrong, for example, to wonder whether it was time to buy the miners in a second article published on 4 February 2015. That was a false signal, although I did urge caution even in that article. Fortunately, despite wondering whether the time was right, I didn’t buy any miners’ shares in February last year.
When I look at the share price charts today of miners such as BHP Billiton, Rio Tinto and Anglo American, and at the price charts for commodities such as iron ore, oil and copper, I still see a downtrend over a one-year period. To me, that means the crucial ‘buy’ signal for the mining companies is still missing, just as it was a year ago. When it comes to investing in the big mining companies, I think it seems likely that the best strategy from here is one of slothfulness.
Kevin Godbold has no position in any shares mentioned. 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.