Photographer: Taylor Weidman/Bloomberg

Bond Investors' Confidence in Rio Tinto Is Reviving

  • Cost of protecting mining giant’s debt has fallen in 2016
  • Raw materials prices have gained this year on China demand

Bond investors’ confidence in Rio Tinto Group is reviving along with global commodity prices, raising the prospect of an improved outlook for its debt ratings.

The Anglo-Australian miner, which took an ax to costs after a multi-year decline in iron ore, is benefiting from a 36 percent surge this year in the steelmaking material that accounts for more than half its profits. Aluminum, coal and copper have also gained.

Standard & Poor’s Global Ratings said it may shift its negative outlook on the company’s A- rating to stable, though stressed the improvement in commodities remains tied to Chinese demand growth. As prices have gained this year, the cost of insuring Rio’s debt has fallen and it’s the best performer this year in the 25-member iTraxx Australia index of credit-default swaps. Contracts for Rio have fallen 64 basis points to 137 as of Thursday, near the lowest level in 10 months, according to CMA data.

“With the strength we’ve had in some of the marquee commodities like iron ore, there’s no denying that the worst is behind us,” said Adrian Prendergast, an analyst at Morgans Financial Ltd. in Melbourne. “Looking forward, there’ll have to be an increase in confidence in the equity market and in the debt market as well.”

Commodities have rallied this year, with iron ore boosted by steel output in China, driven by the nation’s infrastructure and property sectors. Gold has surged on haven demand and shortages have emerged in some base metals, particularly zinc. The World Bank said last month that raw materials demand will strengthen in 2017, while Citigroup Inc. said in July that it’s bullish on commodities for next year.

“The recent rebound in metal prices, if sustained, could alleviate the downward rating pressure on miners, including Rio,” May Zhong, a Melbourne-based S&P analyst, said in an e-mailed statement. “However, in our view, metal prices remain very volatile and are sensitive to changes in raw material demand from China.”

S&P rates Rio at A-, the fourth lowest investment grade, while the producer’s score at Moody’s is at Baa1, the equivalent of one step lower. All three assessors have a negative outlook on the issuer.

Moody’s and Rio Tinto declined to comment on the prospect for changes to the outlook or to the producer’s ratings.

With Rio’s credit metrics likely to improve, S&P is expected “to change the outlook on its A- rating to stable from negative in the near term,” Deutsche Bank AG analysts including Gus Medeiros, Craig Nicol and Ken Crompton wrote in an Aug. 4 note. Moody’s is also likely to revise its outlook to stable and to consider a ratings upgrade to A3 next year, according to the analysts.

Rio, which this month reported first-half underlying earnings fell 47 percent compared to a year earlier, remains cautious over China, the top commodities consumer, Chief Executive Officer Jean-Sebastien Jacques said on an Aug. 3 call with analysts.

“There is lots of uncertainty around China,” said Jacques, who began his new post in July and has visited Chinese customers and authorities in recent months. “We need to make sure that under any kind of scenario, our assets perform well and are free cash flow positive.”

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