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Rio Tinto's downside risk limited by Chinese property revival

Published: 06:08 22 Aug 2018 EDT

Chinese city
The Chinese government appears to be doing what it can to at least cushion the fall in infrastructure spend

Rio Tinto PLC (LON:RIO) is down year-to-date but with the Chinese property sector reviving, it is time to stop selling the shares, Liberum argues.

The stock is not only down on the year but has also de-rated versus the sector and has performed significantly worse than its perennial rival, BHP Billiton.

China's property market appears to have turned, and although Liberum Capital Markets does not think the revival is sustainable, it should minimise downside risks to Rio's share price in the meantime.

READ: Rio Tinto sees mammoth US$7.2bn in shareholder returns fail to offset slightly disappointing first-half results​

The broker has whacked up its price target to 3,600p from 2,750p and upgraded the stock to 'hold' from 'sell'. The new price target factors in the sale of Grasberg for US$3.5bn.

According to the broker, Chinese property demand is the key driver of commodity demand while Chinese fixed asset investment (FAI) continues to ease, the weakness is entirely driven by infrastructure FAI, rather than the more steel-intensive property FAI.

“Historically, property FAI has been far more correlated to apparent steel consumption than infrastructure investment, despite investment in absolute RMB [renminbi] terms being about 30% lower (and half that of manufacturing FAI). The relationship can be explained by the smaller design and engineering costs in a simple apartment building in a low tier city (75% of floor space) versus, for example, a more highly engineered bridge or water treatment facility,” the broker explained.

“One would expect this relationship to only strengthen as a higher proportion of construction moves to lower tier cities where the cost of raw materials is a higher proportion of the cost of erecting a building,” it added.

Shares in Rio were up 0.5% in a falling market at 3,685.5p.

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