There Goes the Rio Tinto “Exit Strategy”

(This is an excerpt from an article I originally published on Seeking Alpha on September 8, 2015. Click here to read the entire piece.)

Under pressure from investors, Glenore Plc (GLNCY), the world’s largest corporate player in the commodities market, recently announced a plan to slash as much as $10.2B in debt by offering additional shares to the market, selling assets, and eliminating dividends. In the first half of 2015, Glencore spent $1.8B on distributions and buybacks. From the press release dated September 7, 2015 (emphasis mine):

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Glencore reassured investors that this plan will not impact core business activities. {snip}

I take three primary lessons or implications from this move by mighty Glencore:

1. Glencore’s capitulation to anxious investors implies that the odds of a continued collapse in commodity prices remains high. Note that the company DID use this opportunity to reiterate the supply challenges for copper and zinc. The company also thinks seaborne thermal coal has come into balance.
2. Commodity-related companies with poorer capital structures will likely be forced to make similar moves in due time, especially cuts of whatever dividends are still offered as carrots to keep investors interested.
3. Glencore’s appetite for acquisitions in this environment has likely greatly diminished. Major acquisitions, like a deal with Rio Tinto (RIO) should be completely off the table for the foreseeable future.

From point #1 and #2, I have slowed down my eagerness to shop for additional cheap commodity plays. Some commodity plays are likely still good shorts on rallies. Point #3 means that the upside risk (opportunity) for RIO has significantly come down. I no longer view my long-term call options on RIO as a hedge/lottery ticket on a potential deal with Glencore. There goes the Rio Tinto “exit strategy.”

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Source: FreeStockCharts.com

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While I still do not want to short RIO, shorts of BHP are quite sufficient for taking the bearish side of the iron ore trade.

Source: FreeStockCharts.com

In late April, I outlined my trading strategy on iron ore plays in “How To Trade The Change In Narrative And Momentum For Iron Ore.” {snip}

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Full disclosure: long RIO call options, long VALE, short SOUHY

(This is an excerpt from an article I originally published on Seeking Alpha on September 8, 2015. Click here to read the entire piece.)