Interactive Investor

How to play safe in mining sector rout

10th October 2014 12:11

Harriet Mann from interactive investor

Mining stocks have been battered over the last few months, largely due to the plunge in iron ore prices and bearish sentiment around gold. Now, more than ever, investors need some sound advice, and Numis Securities certainly talks a lot of sense.

Remaining "cautious" on the sector, the broker doubts a break from the negative trading environment will come any time soon. The City is expecting downgrades, cuts to project spending, and re-evaluations of dividends and assets as the miners try to adapt to a lower iron ore price, Numis warns.

But despite the rather bleak outlook, there are still opportunities to secure decent returns, it says. Investors just need to think "defensive" by employing a conservative stock-picking method with low risk and being wary of those that pay dividends.

"There is value to be had by avoiding riskier assets and broker balance sheets," reckons the Numis mining team.

Its top picks are Randgold Resources for gold, Fresnillo for silver and Petra Diamonds for the stones, which the brokerage says all have "superior growth profiles to counter-act flat to falling commodity prices, high quality assets to weather any downturn and strong management to deliver on business plans". The shares are expected to return 23%, 48% and 32% respectively.

Although on traditional valuations the mining sector looks cheap, they are set to price in risk as downgrades are dished out to factor in lower commodity prices, keeping riskier stocks under pressure.

"Our estimate," says Numis "show the sector appears to be pricing-in discounted gold and industrial prices, at an average 9% discount to spot (simplified prices $1,111/oz gold, $2.65/lb copper, $86/t iron ore). Our target prices decrease by an average of 13%. We are cautious but see value in shares on a 1-2 year view, reflected by a number of 'buy' recommendations."

But the market is asking how miners are going to adapt to a continued negative trading environment, and undoubtedly further write-downs and cuts to capital expenditure will ensue. But looking even further ahead, with no company prepared to spend cash on development - whether they have it or not in the first place is another question - companies are likely to be treading water for some time, if they manage to keep afloat.

This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.

Related Categories