BHP, Rio shares tipped to jump: Morgan Stanley [IMG] Morgan...

BHP, Rio shares tipped to jump: Morgan Stanley


Morgan Stanley lists BHP as its preference in the sector, but also sees Rio Tinto as attractive.

• The Australian
• 4:39PM December 13, 2016

Longstanding investors in the nation’s two mining giants have been rewarded in spades in the back half of this year, as BHP Billiton and Rio Tinto have seen their share prices jump to 15-month peaks, but the rewards could yet become much more lucrative.
According to analysts at Morgan Stanley, the cash flow improvements from the commodity price rally could lead to significant dividend hikes in the coming 18 months.
In a note to investors today, analysts led by Brendan Fitzpatrick upgraded their price target for Rio Tinto by 19 per cent to $71 a share and lifted the target for BHP by 9 per cent to $30.
This compares favourably to current prices of $61.25 and $26.12, respectively.
“Better than expected cashflow leading to debt reduction and increased returns should drive momentum,” Mr Fitzpatrick said.
“Rotation into the sector is at an early stage (and) it could continue in 2017. BHP and Rio are set to benefit.”
Morgan Stanley lists BHP as its preference in the sector, although it has labelled both as “attractive” buys.
The call comes as the investment bank sharply upgraded its forecasts for key commodities on the back of a startling rebound this year in coal and iron ore, in particular.
Activity this year has now forced the group to push up its 2017 coking coal projection by 58 per cent, while forecasts for thermal coal have been raised 36 per cent and its iron ore view is up 16 per cent.
Elsewhere, copper forecasts have surged 13 per cent and aluminium is up 10 per cent.
The positive readjustments to its outlook have required a significant elevation to its earnings per share view on Rio and BHP, with projections improving between 50 and 90 per cent in the next few years.
Importantly, risks are primarily seen to the upside.
Forecast for pre-tax earnings for the two behemoths have shot up $US15 billion ($20bn) in fiscal 2017 on the ‘upside scenario’ measured by Morgan Stanley, with a higher price scenario potentially seeing a further $US3.5bn tacked on.
Should the upside scenario play out the two groups would report free cashflow of $US17bn, far in advance of their combined capital expenditure plans and leaving room for a healthy payout to shareholders.
“We expect cash to be directed to debt reduction and dividends; higher dividends could support equity prices 15-30 per cent higher and still leave cash for debt reduction that would imply an additional 5 per cent uplift in market cap,” Mr Fitzpatrick said.
“Beyond this, productivity targets can add to valuations; we estimate a further 5 per cent in Rio’s case.”