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Canada exports a lot of commodities to China and so basic materials companies in Canada are exposed to China's economic slowdown. With this downtrend in mind, investors should only invest in Canadian basic materials stocks that trade at significant discounts.

Basic Materials Demand Sliding
Declining demand for commodities from China and Europe has hit Canada, a major commodity exporter. Craig Fehr, Canadian market strategist said, "The big three sectors: energy, materials and financials, are all having tough quarters driving earnings growth." This trend is also expected to affect banks and other financial institutions as they wait to produce their quarterly financial statements.

With the increase in the cost of labor, Barrick Gold (NYSE:ABX), the largest Canadian gold producer, reported reduced earnings. Profitability of Canadian Natural Resources (NYSE:CNQ) declined 3.6% this month. This was their highest decline over the past four months. Canada's biggest natural gas producer, Encana (NYSE:ECA) saw its shares slump by 3.1% because of the 56% decline in revenue.

The level of raw materials in the country has been reported to have significantly reduced since this was last witnessed in 2008. Oil declined by 14% despite the improvement in energy production technology such as fracturing and hydraulic fracturing. Fund manager John Stephenson said, "Things have really deteriorated in the last few months with what we're seeing globally, so it's not surprising to see a pullback in just about every commodity including oil."

Checking Valuations

Somehow many Canadian basic materials companies are not cheap relative to the S&P 500:

Ticker

Company

Industry

P/E

P/S

P/B

P/FCF

ABX

Barrick Gold

Gold

10.61

2.51

1.41

 

SU

Suncor Energy

Independent Oil & Gas

11.08

1.32

1.3

16.35

CNQ

Canadian Natural Resources

Independent Oil & Gas

13.16

2.05

1.29

120.16

TCK

Teck Resources

Industrial Metals & Minerals

14.75

1.8

1.06

16.49

GG

Goldcorp

Gold

22.6

6.08

1.5

 

SLW

Silver Wheaton

Silver

23.86

17.37

4.4

 

EGO

Eldorado Gold

Gold

35.07

10

1.9

 

NXY

Nexen

Independent Oil & Gas

35.49

1.98

1.51

 

AUY

Yamana Gold

Gold

40.73

6.45

1.91

 

ECA

Encana

Major Integrated Oil & Gas

 

2.65

2.89

 

KGC

Kinross Gold

Gold

 

2.83

0.9

 

TLM

Talisman Energy

Independent Oil & Gas

 

1.55

1.25

 

Only Barrick Gold, Suncor Energy, and Canadian Natural Resources are cheaper than the 14.01 average price-to-earnings ratio of the S&P 500. The average price-to-sales ratio for the broader market is 1.30, and only Suncor Energy comes close. The one firm on this list that trades at a discount to book value is Kinross Gold, though this company is not cheap on the basis of sales.

In light of the macro picture only these three companies are interesting buy prospects. Barrick is particularly interesting because it is the favorite gold miner among analysts.

The rest of these firms are not attractive and do not reflect the risk of basic materials companies competing against other producers in global markets. Investors should skip these other names until they trade at valuation multiples that are below market averages.

Please read the article disclaimer.

Source: Finding Value In Canadian Basic Materials