Rio Tinto (LSE: RIO) has long been a star dividend stock in the FTSE 100. But from January it has lost 18% of its share price value. This has been mainly due to market concerns over China’s future economic growth rate. Yet in my view, this pessimism over China — and by extension over Rio Tinto — is ill-founded.
China’s economy has changed
Since the mid-1990s, China almost single-handedly created and sustained the commodities ‘supercycle’, characterised by sustained rising commodities prices. This arose from the vast disparity between its need for these commodities and its lack of indigenous resources.
China’s economic focus in the first couple of decades of the supercycle was on expanding its manufacturing base. Its focus then shifted to expanding the infrastructure needed to create a burgeoning middle class, but commodities prices still rose.
As it now stands, China is addressing its post-Covid economic landscape. The onus has been on removing negative consumer and property policies, rather than on aggressive stimulus, to drive activity.
However, for me, it’s crucial to understand three things at this point. First, China is still committed to economic growth this year of around 5%. Second, Chinese President Xi Jinping has staked his reputation on it being at least that level. And third, China can – and will – deploy all fiscal, monetary, and political measures available to ensure this growth target.
Underlying fundamentals are good
Rio Tinto is well-positioned for such a rebound, it seems to me. It has major operations in several of the key commodities that China – and others – want. These include iron ore, aluminium, lithium, and copper.
Iron ore is used to make steel and is key to China’s infrastructure build-out. Aluminium is used in jet engines, electric vehicles, and mobile phones – among other products – in China and elsewhere. Lithium is essential in batteries for hybrid and electric cars, and for rechargeable power for laptops, phones and other devices. All these feature highly in China’s push to expand its middle class.
Copper also plays an essential role in computers, smartphones, electronics, appliances and construction. Analysts’ predictions are for copper prices to rise to $11,000 per tonne by 2024, from around $8,500 per tonne currently.
Excellent shareholder rewards
For me, aside from the big-picture positives, Rio Tinto as a company has a lot to recommend it. Broadly, its 2022 results were down on the previous year’s. But it still delivered underlying EBITDA of $26.3bn, and free cash flow of $9bn.
It also posted an underlying return on capital employed of 25%. This latter figure is way higher than the industry average of around 13%.
Additionally, it paid a total dividend of $8bn in 2022. This represents 60% of its underlying earnings, which is a company policy. It also meant a dividend yield of 6.8%. For 2021, the payout was 13%, and for 2020 and 2019 it was 6.8%.
The key risk I see here is that China’s economic recovery falters. This would mean demand for commodities staying lower for longer and prices staying lower too.
That said, I think it offers high growth potential and high dividends at a knockdown share price. And if I did not already have other holdings in the sector then I would buy it right now.
