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Here’s why Rio Tinto Limited and BHP Billiton Limited shares got slammed yesterday

What: On Thursday, Rio Tinto Limited (ASX: RIO) shareholders endured a 2.7% slump in the share price as investors aggressively sold off resources stocks.

BHP Billiton Limited (ASX: BHP) shareholders fared even worse with the stock ending down 2.9%.

So What: The sell-off came in the wake of a downgrade by global banking giant Citi Group which issued “sell” recommendations on both Rio and BHP.

Citi’s analysts cited a significant pull back in bulk commodity prices as we move into 2017 as a key factor in its recommendation change according to a report in the Australian Financial Review.

Now What: Shareholders in mining companies could be in for another rocky day of trade on Friday.

Rio and BHP shares experienced further falls in overnight trade on the London Stock Exchange, both stocks fell by around 4.5% each.

Despite a small rise in the iron ore price overnight, the selling pressure from London is likely to further weigh on local sentiment today.

Foolish Takeaway:

With Rio and BHP shares rallying by 15% and 27% respectively over calendar year 2016, shareholders have enjoyed significant outperformance compared with the 3% return from the S&P/ASX 200 (Index: ^AXJO) (ASX: XJO).

The share price gains have accompanied a solid rise in commodity prices, particularly iron ore. However doubt remains over the sustainability of this rally.

Given the rally has been driven by Chinese demand which is not only opaque, but also artificially inflated by government stimulus, it would appear wise to remain sceptical of the underlying drivers of this rally.

While analyst consensus forecasts suggest a big leap in earnings per share (EPS) for BHP in the current financial year, the rate of growth in FY 2018 slows dramatically. (source: Reuters)

Meanwhile, earnings expectations for Rio forecast a slide in EPS over the next few years. (source: CommSec)

Taking these consensus expectations into account, it would be understandable, in my opinion, for shareholders to consider taking some profits off the table at this point.

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Motley Fool contributor Tim McArthur has no position in any stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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