While the FTSE 100 trades close to a record high, the resources sector continues to offer significant upside potential. Despite the brighter outlook for commodity prices and a range of mining companies having posted strong share price gains in recent months, a number of stocks within the sector could rise significantly in 2017. Certainly, volatility may continue to be high, but with 20%-plus upside and wide margins of safety, these two growth stocks could be worth buying right now.
An improving business
In the last year, Glencore‘s (LSE: GLEN) share price has risen by 263%. A key reason for this is its improving business model, with the company reducing its debt pile in order to lower its risk profile. This has been done through cost-cutting, disposals and fundraising. Investors have responded positively to the changes made, since they should mean Glencore is better able to cope with the cyclical nature of the commodity market.
Looking ahead, gains of 20%-plus are very much on the cards. This week, the company reported production which was in line with guidance. Although production was lower than in the corresponding period, Glencore is forecast to record a return to profitability in 2016. This is due to be followed by a more-than-doubling of earnings in 2017, which puts the company’s shares on a price-to-earnings growth (PEG) ratio of just 0.1. This indicates there’s a sufficiently wide margin of safety to protect against potential falls in commodity prices.
Glencore’s strategy appears to be sound. It’s a relatively well-diversified business which now offers a highly enticing risk/reward ratio. Although a repeat of the trebling of its share price in the last year may not be around the corner, it nevertheless appears to have major upside potential.
While the iron ore industry has endured a turbulent number of years as supply and demand have become unbalanced, the future for the steelmaking ingredient is now much brighter. This should benefit Rio Tinto (LSE: RIO), for which iron ore remains a key part of its business. Higher demand from China and an improving outlook for the global economy should help to push Rio Tinto’s profitability higher.
In fact, its earnings are due to rise by 38% in 2017. This puts it on a PEG ratio of only 0.5 and means its shares could trade on a price-to-earnings (P/E) ratio of just 11.6 by the end of the year. If its shares rose by 20%, this would put it on a P/E ratio of 13.9. Given its upbeat long-term growth outlook, this doesn’t seem difficult to justify.
In addition to earnings growth and a relatively low valuation, Rio Tinto also yields 4.3% from a dividend which is set to be covered twice by profit in 2017. If its shares rose 20%, it would yield 3.6%. This is a similar yield to that of the FTSE 100 and provides yet more evidence of the company’s potential for capital gains over the medium term.
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Peter Stephens owns shares of Rio Tinto. The Motley Fool UK has recommended Rio Tinto. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.