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This high-flying miner just got clipped by two broker downgrades

You’d be hard pressed to find better performing large cap mining stock than South32 Ltd (ASX: S32) but its golden run may have come to an end, at least for now, after two brokers downgraded the stock.

The share price of the base metals miner slipped 2.3% to $3.83 in afternoon trade in response but the stock is still up close to 40% over the past year.

That is a country mile ahead of the 17% gain by its parent BHP Billiton Limited (ASX: BHP), which it spun out from, and the 25% surge by Rio Tinto Limited (ASX: RIO).

But South32’s mixed production report that was released yesterday has prompted Credit Suisse to downgrade the stock to “underperform” from “neutral” even as it lifted its price target to $3.50 from $3.10.

South32 has reiterated its FY18 production guidance but has flagged rising cost pressures. It is South32’s refineries and smelters that are most at risk of rising costs due to power prices and the cost of inputs are increasing.

Investors will be keenly watching for updates from management when it turns in its half year earnings report card on February 15.

Credit Suisse isn’t alone in sounding the warning bell on South32’s valuation. Citigroup has downgraded the stock to “hold” from “buy” even as it modestly lifted its FY18 and FY19 earnings forecast for the diversified miner to reflect resilient commodity prices.

While South32 is trading too close to Citigroup’s price target of $3.75 a share to continue to warrant a buy call, the broker has flagged the potential for South32 to win support from extending its share buyback or dividends as the miner is able to generate a free cash flow of US$2.2 billion at the current spot prices on commodities.

On the other hand, Deutsche Bank believes that South32’s share price implies that the market is betting that spot prices will remain where they are for three years, and that is too optimistic an outcome, in the broker’s view.

Deutsche is urging investors to sell the stock and has a price target of $3.10 per share.

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Motley Fool contributor Brendon Lau owns shares of BHP Billiton Limited, Rio Tinto Ltd., and South32 Ltd. 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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