UBS downgrades Rio Tinto, says iron ore near inflection point

UBS noted that the stock has generated a total shareholder return of around 79% over 12 months, driven by the strong iron ore price and record cash returns. It estimated that the shares now discount an iron ore price of $80-90/t versus the bank’s long-term price of $65/t.

UBS said Rio generates significant cash flow and shareholder returns should stay elevated in 2021.

"However, in our view current free cash flow & dividends are not sustainable as we expect the iron ore price to fall by more than 50% (from more than $200/t to circa $90) over 12-18mths; we do not believe Rio’s valuation is compelling at a 'normalised' iron ore price (FCF yield 6.5% at $80/t).

"Near-term risks for the commodity complex are increasing with the Fed turning more hawkish & China taking action to deflate commodities (eg by selling strategic base metal reserves note); we expect this to accelerate the unwinding of the 'reflation trade'."