Making Money In The Stock Market Has Never Been So Easy. Rio Tinto (Rio.Ax) A Case Study.

Date: 26/12/2011

By Ken Erem - Sydney based stock market trader

RIO TINTO – BUILDING AN EMPIRE OUT OF SIMPLICITY

Ken Erem, a trader based in Sydney, Australia believes Rio is a strong buy with a minimum 20% upside for 2012 based on its pre-Christmas close. He writes “In the current market achieving 20% in 12 months is like taking candy from a baby, and Rio Tinto (Rio.Ax) is a prime example”.

Article Submission

Since 3000BC a mine site along the Rio Tinto River in Spain has been mined for gold, silver copper and other minerals. In 2011 the name Rio Tinto is better known as the international mining company that has mined and sold resources to the global marketplace over the past century.

In the current market achieving 20% in the next 12 months is like taking candy from a baby, and Rio Tinto (RIO.AX) is a prime example. There are three simple reasons why Rio is a strong buy at its current price, representing a 33% discount to its 52 week high.

THE HISTORICAL CASE – GROWING THROUGH ADVERSITY

What we have is a company that has used a simple business model through the 1900s (mining resources and selling them at market) to become the third largest miner in the world. This time period has included major events such as WWI, WWII, depressions, natural disasters and a new era of terrorist related activities. When compared to the most significant events of the 1900s, the current overly dramatized “European crisis” pales into insignificance. The “European crisis” is the result of people borrowing more money than they could afford to repay. This is an every-day event, it occurs everywhere, surprise surprise the world keeps on turning. Let us look at what is not happening in today’s world:

* a world war;

* the use of weapons of mass destruction;

* a viral infection killing millions of people; and,

* a large scale world-wide natural disasters.

Historically speaking, we are in a period of great stability which should have minimal impact on business operations of a company such as Rio Tinto. With an increasing world population, with most individuals maintaining an unquenchable thirst for consumer products, short term market downturns for the largest miners who include Rio Tinto, can create a fundamental “perfect storm” for smart investors.

THE FUNDAMENTAL CASE – A “PERFECT STORM”

Selling Rio to a prospective investor on a fundamental basis at current valuations would equate to the easiest endeavour ever embarked upon by anyone at any time in history. The only hard part would be getting the investor out of the foetal position and off the floor. Informing them that the current P/E ratio of 7.5 being the lowest in a decade of yearly averages would be a start. Or you could read from the balance sheet that Rio’s book value has increased every year in the past ten. Rio had a net interest cover of 34 times in the 2011 financial year and a net gearing of 6.7%. But all those figures won’t matter if fear prevents investors’ decision to click buy on their computers at $AU60 per share when fundamentals dictate its value should be at $AU90.

To the storm of people who may cry foul over the $90 valuation, screaming “What about the falling base metals prices?” I pose the question “So what”? Have you put any more thought into it, apart from the fact that they are falling? If anything, a short term fall in base metal prices creates a “perfect storm” scenario for juggernauts like Rio. After being in the game for so long it now owns some of the world’s cheapest resource fields. That means it’s cheaper for Rio to mine resources than many of its smaller, more highly geared competitors. Short term lower base metals can cripple some smaller competitors who are facing times of low or no profitable returns. For Rio this means takeovers and a chance to continue capital expenditure and growth whilst others ponder survivability. The end-state is a streamlined competition base in the coming years, and the longer the “crisis” continues, the more competition is streamlined. This is happening as you read this article and whilst competitors are feeling the pinch Rio is still producing at maximum capacity and selling everything they mine. Consider a coffee shop with a line out the door and around the corner unable to pour coffees fast enough whilst other coffee shops in town are struggling or going out of business. I bet the people walk past wishing they owned shares in that place? Finally consider a global population of 7 billion people. By 2050 there will be between 7.5 and 10.5 billion of us, all will have unlimited wants for the latest of everything, our genetically inherited trait of consumerism is never quenched. To produce almost everything that will be wanted in the world in the coming years there will be a high probability that at some point in the production chain you will have pay Rio for their services.

THE TECHNICAL CASE – “A QUICK BUCK”

Over the past few months technical analysts can readily identify a price floor of $60AU for Rio. Since October there has been three trading days where this floor was breached only to be followed by a strong rebound, the last one being a $10 rise in 2 weeks. Holders of Rio shares just aren’t willing to let them go below this psychological price floor in the current market. After hitting that floor again a couple of days ago we can expect a 10% in January 2012 if history repeats itself.

“THE END GAME”

The end game for an investor is to receive a return based on time, money or effort invested. This requires a task focused and confident attitude in times of uncertainty. If everyone had this attitude opportunities would be few and far between. The fact is as many investors are reeling from the current market situation only a select few will have the confidence to rise from the ashes and profit. If an investor can’t bring themselves to buy Rio Tinto at $AU60 they need to give the game away as stock market investing is clearly not their strong attribute. The next 40 years will be the golden age for unbridled consumerism and Rio Tinto will be profiting every step of the way, so cash out at your own financial peril. Alternatively, you could get on board now before the hoard to maximise your profit.

ends

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