Is Now the Time to Buy Metal Mining Stocks?

Like many natural resource producers, metal miners were hit hard in the commodities bust.

They ramped up production of metals, such as copper and gold, in response to demand during the commodities boom times when China was buying everything in sight. But just as the supply of metals grew, China stopped buying so much, and all this extra production started to pile up, dragging down prices.

Meanwhile, gold prices have an additional weight because of a likely looming Federal Reserve interest rate hike. Although the Fed didn't raise rates earlier in September, economists expect it will eventually. Because gold pays no dividend yield, it is usually passed over for other yield-bearing investments in a rising interest rate environment.

To shore up business, many miners cut capital expenditure costs significantly, but it's only been in the past few weeks that some miners are finally making the decision to close mines.

Miners are loathe to close mines because doing so is more involved than just turning off the lights and sending workers home. Mine closures can take months to complete, and when prices are high, it can take just as long or even longer to restart digging. That's why many miners will still find ways to make mines operable, even in the face of losing money.

But sometimes economics forces their hands. In a debt-reduction plan, Anglo-Swiss commodities giant Glencore (ticker: GLEN) announced the closure of several mines and sales of other mines as it tries to restructure. It hasn't helped Glencore's share price, which is down 60 percent for the year. The world's largest copper producer, Freeport-McMoRan (FCX), is closing mines in Arizona and New Mexico and reducing production elsewhere. Barrick Gold Corp. (ABX) is putting some of its U.S. gold assets up for sale and is on a debt-reduction plan. Alcoa (AA) is splitting itself into two companies.

The losses in these commodity giants are worrisome for investors, according to a research note from Delaware-based investment service Brown Brothers Harriman, and may have exacerbated quarter-end portfolio adjustments.

With the thrashing miners have taken, are there opportunities amid the wreckage? It depends. Some analysts and investors are still avoiding the industrial metal sector, but others say gold miners might be worth visiting now.

Carl Icahn steps in. In late August, activist investor Carl Icahn increased his share in Freeport McMoRan to 8.5 percent, saying the firm was undervalued.

Mike Ciccarelli, commodity and stock trader at Briefing.com, says when "someone like him is buying, it makes you say, 'wow.'"

Yet he points out that following Icahn's lead does not always work out, noting how when the activist investor bought Arch Coal (ACI), it went from $1 to $10, and now back to around $4.

Ciccarelli and Adrian Day, chairman and chief executive officer of Adrian Day Asset Management in Annapolis, Maryland, both say the issue for industrial metals is twofold: There's a big overhang of supply, and a lack of demand from China. That makes it tough to step in and buy miners.

Furthermore, a lot of the big-name miners like Glencore and Freeport have taken on a lot of debt, which is hurting them, Day says, even though they may have very valuable assets.

Still, Day says, he's "optimistic" on the outlook for copper because he sees a dearth of production in five years "because of a paucity of new major mines" that will come into production then. Given that view, he says he is "picking" at Freeport, buying it at certain times. But he says there's no rush for investors to get in right now.

Ciccarelli says he's holding off on buying industrial miners, but he's keeping an eye on BHP Billiton (BHP).

"BHP is one of my favorites. Once there's more certainty of a rebound ... [it will be] one of the first names to go up. I'm dying to buy into it ... but not yet," he says.

Taking a shine to gold miners. In a recent research note, analysts at UBS say they are "more constructive on gold over a medium- to long-term horizon," particularly relative to the consensus.

Even though the Fed will eventually raise interest rates, which has been the main reason gold prices fell over the past few years, the analysts say the consensus view may be overestimating how high rates may go.

"One of the most common pushbacks we've received revolves around the question of who is going to buy gold in a rising rate environment. We argue that while there may still be some scope for bouts of weakness as positions are fine-tuned, fundamentals ultimately suggest that the market is close to finding equilibrium," UBS analysts say.

The analysts have a few equity gold-miner picks if gold prices start to move higher. They have "buy" recommendations for AngloGold Ashanti (AGG.AX), saying the company has the best risk versus reward to gain leverage to the upside in gold prices. They also rate Randgold Resources (GOLD) as a buy, saying it would be the most defensive stock to own.

Day says he is also more constructive on gold miners. While they have not cut back production, many are "high grading" mines, meaning they are selectively mining richer sections, which can lead to future production problems. He prefers royalty companies, which provide money upfront to gold miners to help bring the mine to production, and then receive royalty payments on future output.

His picks in this sector are Franco-Nevada Corp. (FNV.TO), Royal Gold (RGOLD) and one silver streaming company, Silver Wheaton (SLW.TO), which he says investors can buy now.

"Franco and Royal continue to generate cash flow; they both have good balance sheets. Franco, Royal and Silver Wheaton have been acquiring assets in these depressed markets, which I think is what you want to be doing. You want to be buying assets when they're cheap," Day says.

Debbie Carlson has more than 20 years experience as a journalist and has had bylines in Barron's, The Wall Street Journal, the Chicago Tribune, The Guardian, and other publications. Follow her on Twitter at @debbiecarlson1.