For investors in the mining sector, the last year has been nothing short of horrific. That's because commodity prices have weakened considerably with, for example, iron ore falling to a ten-year low, gold slumping to a five-year low and oil being as low as we have seen for many, many years. And, looking ahead, the prospects for many commodities are not particularly encouraging, with commentators and industry experts predicting that weak prices could be here to stay over the medium term.
As a result, it may seems like a rather strange idea to invest in mining companies such as BHP Billiton Limited (ASX: BHP) and Newcrest Mining Limited (ASX: NCM). After all, both companies have suffered from a weakening of investor sentiment in recent months, with their share prices falling by 17% (BHP) and 21% (Newcrest Mining) in the last three months alone.
However, both companies have superb long term potential to deliver strong returns, with the two of them in combination appearing to be a sound move for patient, long term investors. That's because, while both companies are operating amidst challenging trading conditions, they offer a potent mixture of income, growth and value potential.
For example, Newcrest Mining has undertaken a number of initiatives in recent years to make its business more efficient and to lower its cost curves. That was prompted by a weak gold price and, while the outlook for gold may be somewhat disappointing (especially since the global economy is improving and investors are seeking perceived 'safe' assets such as gold to a lesser extent), Newcrest's forecasts are encouraging.
In fact, the company is expected to increase its earnings per share from $0.56 in financial year 2014 to $0.99 in financial year 2016. That would represent a gain of 77% and could positively catalyse investor sentiment in the stock. And, with Newcrest expected to have a forward price to earnings (P/E) ratio of just 11.4, it is considerably cheaper than the ASX, which has a P/E ratio of 16.2.
Meanwhile, BHP may not have such bright medium term prospects, with its bottom line set to come under pressure in the next couple of years. However, just as Newcrest restructured and reorganised its business in recent years, BHP's current transitional period that includes the spinning off of non-core assets could allow it to deliver exceptional performance in the medium term.
And, in the meantime, it yields a fully franked 5.3% which, despite the RBA keeping rates on hold recently, is likely to hold great appeal for a great many income-seeking investors as it is currently considerably higher than the ASX's yield of 4.5%. Meanwhile, with BHP increasing its output, it may find that its market share improves as smaller, less efficient peers find the going even tougher. As such, and in the long run, its dominant position in a range of commodities could be strengthened and provide improved margins and profitability.
