Glencore PLC (LON:GLEN) shares "screen very attractively" with a robust dividend yield and free cash flow FCF) yield, Morgan Stanley said on Tuesday as it turned positive on the stock.
Morgan Stanley raised its rating on Glencore to ‘overweight’ from ‘equal-weight’ and cut its target price to 390p from 400p, saying it is one of its preferred stocks, along with Anglo American PLC (LON:AAL) and ArcelorMittal.
"With a 11.8% FCF yield on spot 2019 (adjusted for the regulatory risk, 13% reported) and 5.3% dividend yield the shares screen very attractively, we think," the broker said.
It marked the first time Morgan Stanley has rated Glencore at ‘overweight’ since initiating coverage on the company.
The broker believes the equity market is finally taking into account the geopolitical risks facing the company. It also thinks improved cash flows from higher coal prices will offset the financial impact of such risks.
Glencore has 'ample room to add to share buyback programme'
The upgrade came as Glencore announced that its ongoing US$1bn share buyback programme was being extended by US$1bn and will now complete on 20 February 2019, the day before the announcement of the company's 2018 full year results.
READ: Glencore doubles scope of buyback programme to US$2bn
"The company is reacting to the improved valuation of its own equity by switching from opportunistic M&A to share buybacks," Morgan Stanley said.
"The group's 2019 FCF on spot of US$9bn (ex working capital) and end of 2018 net debt of US$11.2bn versus the Glencore self-imposed cap of US$16bn suggest ample room to add to the programme."
Morgan Stanley added that the fundamentals and commodity mix are unchanged and “look attractive” with 40% of earnings (EBITDA) on spot prices from copper and 50% of industrial sales related to electrification of the drive train.
"The long-term demand outlook In thermal coal (40% of EBITDA on spot) may be less appealing but lack of investments globally is keeping near-term demand and supply balances very tight."
Shares in Glencore gained 2.65% to 338.75p in late morning trading.
Morgan Stanley downgrades BHP Billiton
In the same note, Morgan Stanley downgraded BHP Billiton PLC (LON:BHP) to ‘equal-weight’ from ‘overweight’ and left its target price unchanged at 1,770p, implying a 12% upside after the shares outperformed key peer Rio Tinto PLC (LON:RIO) by 12% in the year to date and by mid-single digits since the start of 2017.
"The equity market now fully appreciates the value of BHP's assets in our view including US Onshore post the disposal and commitment to return all proceeds to shareholders," the broker said.
"The latter may underpin the share price but does not create additional value."
READ: BHP Billiton unveils plan to chop its name in half as next step in miner’s restructuring
BHP said in July that it would sell the bulk of its US onshore oil and gas unit for US$10.5bn to BP PLC (LON:BP) after receiving pressure from activist investor Elliott Management.
Morgan Stanley said the remaining debates are centred around BHP’s growth options in potash, the ability to expand the Olympic Dam copper smelter in South Australia after the failure of several boiler tubes at the acid plant, and whether it will reach its metallurgical coal cost target
"We don't have particularly differentiated views on these and don't expect much progress on these subjects for some time," it said.
"At 8.4% FCF yield and 6.2x enterprise value/EBITDA on spot for 2019 with 12% upside potential to our price target we see the shares as solid but no longer standout."
Shares in BHP were little changed at 1,677p.