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Holy Trinity – BHP, FMG and RIO

The holy trinity of resources received another blessing, from Father Chris K, preaching this week from the Kimber Capital investment pulpit.

BHP, FMG and RIO are all undervalued, he thundered. Chinese steel production has reached a run rate of almost a billion tonnes a year – previously unthought of – and prices looked strong because of underlying demand, he reasoned. Fishes and loaves, he also suggested, he could turn into a modern day plenty and take everyone to lunch at the Rag and Famish hotel.

All three resource stocks have share buy backs underway and are set to pay significantly higher franked dividends over the next 18 months. Making them the new banks of the market.

Adjusting his miter at the Rag’s corner lunch table, Father Chris reckoned it made sense to lighten off on some of the bank stocks and go longer resources. His enlightened thinking is that the Hayne Royal Commission is not going to provide any bank blessings and they could end up on the end of a blistering temple chucking sermon over lending, impacting future profitability. And dividends paid.

Splashing around New Zealand’s finest sav blanc, like parting the Red Sea, giving the sourdough holy communion, Father C rattled off China’s steel production hit a high choir boy C of 984 Mtpa run rate in September, despite a myriad of macro-economic challenges (aka D Trump) and signs of Chinese PMI slowing. Steel trader stocks remained largely unchanged which implies extra mill production is being immediately sold. And iron ore prices are firming from $US65 to $US70 a tonne. A global infrastructure boom is happening. America is about to climb onto that wagon.

Some of the luncheon congregation looked smug. They had filled their boots with resource stocks, after an earlier Father Chris epistle on their cheapness. Those who missed the opportunity were taking particular note.  

The margin between lower grade ores and the 62% Platt’s index has also narrowed, in line with spot markets. This is another sign of a tight market.    

As quick as a Hail Mary, our Cape Grim sirloins were blessed by Father Chris with a pinch of salt and we were onto the proper communion wine. A gutsy Hunter Shiraz.

As a New Testament, enlightened, divine luncheon investment guru, our man reckons returns of least 15% before dividends could be likely for all three stocks over the next 18 months. All three stocks are trading at discounts to current NPV’s and low enterprise to EBITDA multiples. And consensus earnings forecasts look too low. Relatively high free cash flow also suggests generous dividend payouts for the next 18 months.

FMG looks if it offers greatest upside potential with a price target of $5.50, followed closely by RIO at $95.00 and BHP of $36.00.

FMG has an EBITDA margin of 43% belying its status as a world best low cost miner, and it delivers on its promise of 61% of Pilbara West Fines; this strategy could add another $500 million to revenue. 

To which devoted Kimber Capital followers we all murmured Amen, and tucked into lunch like it was the last supper. After all we reasoned he was not the messiah, just a very naughty boy! 

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