How will Rio Tinto respond to the expected iron ore price inflection?

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Summary

  • The stock of Rio Tinto (ASX:RIO) traded at an all-time high level during February.
  • The company registered robust growth in FY20 despite the economic downturns.
  • There are few potential challenges on RIO’s path that can offset the ongoing rally of the mining giant.

While equity markets seem to be on a roller coaster ride since the beginning of the year 2021, some stocks have managed to steal the limelight with their substantial gains.

The stock price of the world's second-largest metal and mining company, Rio Tino (ASX:RIO) reached an all-time high in February 2021.

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Despite the COVID-led uncertainties, RIO stock has recorded a journey from a low of A$80.10 to a high of A$130.30 within the past 52 weeks. The stock has delivered an excellent return of 26.77 per cent in the past one year, as of 6 April 2021.

The overall FY2020 performance including free cash flow, net earnings, underlying earnings per share, underlying EBITDA and net cash were all up compared to the previous corresponding period.

Additionally, the miner declared a dividend totalling US$9.0 billion for the reported period with a payout ratio of 72 per cent.

Correlation between RIO Stock and Iron ore Prices:

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There is a strong correlation between iron ore prices and the stock price of RIO. Despite the ongoing pandemic situation, RIO managed to produce 333.4Mt of iron ore in 2020, compared with 326.7Mt in 2019. Resilient prices and robust demand from countries like China after an ease in lockdowns drove the company's iron business.

However, the stock has followed a downward trend in past one month in line with the ease in iron ore prices. The stock fell more than 11 per cent in March alone.

Anticipated Challenges:

The ongoing rally of RIO can be stymied by few potential challenges. The first sticking point is the uncertainty in the prices of iron ore. The commitment to reduce carbon emissions from China, the leading steelmaker and the largest importer of iron ore, has dampened the demand for the base metal.

Though the multiyear high prices of iron ore, which last traded at US$167.02 per tonne on 6 April 2021, are consolidating the RIO stock, the challenges anticipated in the near future could curtail the prices.

Since iron ore is now heading towards an inflection point, prices may take a tumble in the second half of 2021. Meanwhile, Brazil, the second leading supplier of iron ore, is trying hard to resume its production. In addition to that, subdued demand from China might create a market glut, easing the iron ore rally.

Good Read: Rio Tinto’s (ASX:RIO) chairman to resign following stakeholders’ uproar

The second potential concern for the mining giant could be the beleaguered Mongolian mining business, Oyu Tolgoi.

One of the largest gold and copper mines in the world is facing challenges in starting production from its underground operations.

The strained terms of RIO with its partners Turquoise Hill Resources and the Mongolian government over the increased initial capital cost for mine expansion has already eroded the economic benefits of the project, as believed by the Mongolian government.

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