The recovery in oil and metal prices has played out well for BHP Billiton (BHP, Financial) as the stock, after having a rough start to 2016, is finally flat for the year. The recent rally, however, will not last for the long term, which is why investors should cash in on the recent gains.
Dividend
BHP Billiton disclosed that its dividend strategy was too substantial keeping in mind the existing market condition. As a matter of fact, the stock market was extensively aware of the possible dividend cut, and the company’s shares operated at levels that assured a strange dividend yield.
However, this commodity decline should have showed stockholders that huge yields are large for a reason in the commodity space, and that reason is not a fundamental sturdy performance of BHP Billiton.
BHP Billiton made an exciting choice, fastening the payout to earnings instead of cash flows. The trifling 50% payout ratio steered to a dividend of 4 cents per share, which was augmented by 12 cents per share resulting in the eventual 16 cents per share dividend.
The choice of tying the dividend to earnings instead of cash flow will offer BHP more pliability to buy properties at distrait prices. Also in case of long term, it certainly makes sense to tie the dividend to earnings. The initial response to this will probably be negative, which is why I am bearish on the stock.
Samarco disaster
The November 2015 Samarco dam disaster is a major topic of interest. In the disaster, mine waste came out through a storage area and spread out in numerous towns, resulting in the loss of human lives. Samarco is a 50-50 joint project with Vale.
Recently, discussions were going with the Brazilian government and the state government of Minas Gerais and Espirito Santo regarding how to manage the situation and how much money each company has to pay for the cleanup effort.
Therefore, according to an agreement with the Brazil government regarding cleanup costs, Vale and BHP have to pay $1.1 billion each. That's a pretty high figure, but it’s just the beginning as both the companies still may face criminal and civil cases arising from the disaster.
Conclusion
Due to the reasons mentioned above, BHP investors should cash in on the recent rally. Stocks and commodities have rallied too much too fast, and it is unsustainable. It is only a matter of time before stocks start moving lower, which is why investors should sell BHP.
Disclosure: I don't hold a position in any of the stocks mentioned in the article.
