Correcting A Mistake: Add To Miner Or Buy Higher Quality Alternative?

 |  Includes: BBL, BHP, TCK
by: Canadian Dividend Growth Investor

As we begin our self-directed investing (side) career, it's impossible to avoid all mistakes. Here's a little background story of one of mine:

As I tested the waters with real money, I bought a mining company, Teck Resources (NYSE:TCK). The most stupid thing was doing so in my tax-sheltered account. I have been holding the miner for a little over a year and it's now down more than 30%. No, I won't sell it now out of fear because it is at its lows, and there's limited downside. In addition, it currently yields over 3%. Besides, I don't think the company will disappear from the face of the earth. So, the question remains; should I be adding to this high beta miner or finding an alternative?

To be clear, I bought Teck before I learned about valuation, and about limiting the downside, which is especially important for volatile companies. At one point in my one-year hold, I could have taken a loss of 8%, and used the remaining proceeds to buy a low beta dividend stock, which I now know is more closely aligned with my temperament. But I didn't take the loss. Since Teck is now sitting at a long-term support line, now would be the perfect time to reduce my cost basis by averaging down. So, there are 2 options to correct my mistake of buying the miner without limiting the downside:

  1. dollar-cost average on my Teck holding, and sell for a capital gain when the price rises above the averaged cost basis;
  2. add to another existing position or start a new position.

Eventually, I want to clear my Teck holding. But I do not know how long it would take for it to get back into the green. Averaging at this price will help me get back into the green faster. But my sole purpose of averaging my basis would only be that I can get out of the entire position faster. On the other hand, I still want exposure to the Materials space. What I really should be doing is looking at this like I'm purchasing a new position. The question I should be asking myself is "what is the best play in the Materials sector"?

Last month, author Arie Goren, in his article about the 7 Top Basic Materials Companies, concluded that BHP Billiton Limited (NYSE:BHP) or (NYSE:BBL) would be most attractive to dividend investors amongst the group.

Here's a quick comparison between the BBL and Teck:

BBL ($58.031) TCK ($27.191)
Market Cap. 61.3B 15.8B
S&P Rating A+ BBB
Morningstar 5-star 3-star
Beta 1.54 3.41
Yield 3.93% 3.36%
*Revenue (CAGR 10 Year) 18.56% 18.12%
*Net Income (CAGR 10 Year) 36.44% 20.71%
*EPS (CAGR 10 Year) 28.36% 15.41%
Click to enlarge

* data from Morningstar
1 - prices as of close of April 5, 2013

From above, we can see that BBL is a bigger and higher quality company. In addition, Teck eliminated its dividend during the financial crisis, while BBL raised its dividend throughout the period. Teck has since reinstated its dividend, though it is still lower than the precut amount. One thing to note is that these miners pay semi-annual dividends. Some investors might rather buy a company which pays its dividends on a quarterly or monthly basis.

If you're a holder of Teck, it is reassuring to see that its debt has become more manageable since 2009.

5-Year Current Ratio

Click to enlarge

Source: ycharts

Teck's current ratio has been in a general uptrend since 2009.

5-Year Debt to Equity Ratio

And its debt to equity ratio has stabilized from its 2009 level.

Moving Forward

Since Teck has treaded back to safer grounds from 2009, I'll continue to hold my position. It is not a bad buy at this level. (Actually, it is at a much better valuation than when I bought it.) However, BBL looks to be a better buy in the Materials space. I have initiated a small position in BBL this week.

For now, I just have to wait out on Teck, while I enjoy a higher yield and growing dividend from my new BBL position.

Lessons Learned

  • Only buy high beta companies when there's limited downside. Patience is key!
  • Research peers in the same sector before deciding which company is the best to buy.
  • Buy speculative plays (or plays that I'm unsure of) in a taxable account, in case I need to take a loss. (Actually, probably best not to bet on any speculative plays.)
  • Most of the time, dollar-cost averaging into a position works out to a lower cost basis than taking a full position full out (even when multiple transaction fees are considered).

Disclosure: I am long BBL, TCK. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: I'm holding TCK.B on the Toronto Stock Exchange.