Rio Tinto (ASX:RIO) and Fortescue (ASX:FMG) share prices hit by broker downgrade

A leading broker re-rates two of Australia’s big resources players.

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Fortescue share price Downgrade in ASX share price represented by street sign saying downgrade ahead Hub24 share price

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The Fortescue Metals Group Limited (ASX: FMG) share price is underperforming today after getting slugged by a broker downgrade.

JP Morgan cut its rating on the ASX iron ore miner to “neutral” from “overweight” as it rebased its forecast for China’s steel output.

But it isn’t only the Fortescue share price that’s lagging. The Rio Tinto Limited (ASX: RIO) share price also got downgraded to “neutral” by the same broker today.

Fortescue share price falling behind

Shares in Fortescue slumped 0.5% to $17.07 while the Rio Tinto share price was trading close to breakeven during lunchtime trade.

In contrast, the BHP Group Ltd (ASX: BHP) gained around 0.4% to $39.76 while the S&P/ASX 200 Index’s (Index:^AXJO) added 0.6%.

“We have rebased our China steel production estimates significantly lower (-7% in 2022) which leads us to cut iron ore prices to $92/90/t in 2022/23,” said JPMorgan.

“For the miners, our RIO and FMG NPVs fall 9-10% to within range of the share price. Given the relatively bearish China steel backdrop, we no longer see catalysts to drive a re-rating in the stocks.”

BHP share price dodges a bullet

The BHP share price could also have been hit by a downgrade but the broker is restricted from giving a recommendation on the shares.

Further, iron ore contributes more to Fortescue’s and Rio Tinto’s bottom line than it does to BHP’s.

Large investment weighs on Fortescue’s outlook

But there’s another drag on the Fortescue share price. This relates to Fortescue Future Industries (FFI) – a pet project by Fortescue’s chair Andrew Forrest. FFI is developing hydrogen as a future fuel source to replace polluting fossil fuels.

“FMG’s ambitious hydrogen production target (15Mt by 2030) suggests material capex will need to be deployed in the short to medium term,” JP Morgan said.

“Under a higher iron ore price scenario, we believe investors would be willing to tolerate this (to some extent).

“Our latest price deck leaves FMG with a relatively low FY23E FCF yield of 6%, meaning ND [net debt] will need to rise in order to accomplish FFI’s ambitions, and dividend payouts may come down.”

Rio Tinto share price also getting benched

Meanwhile, Rio Tinto’s recent disappointing production update contributed to the broker’s downgrade decision.

The ASX miner lowered its medium-term Pilbara capacity forecast to between 345 million tonnes (Mt) and 360Mt. Its initial estimate was 360Mt.

Further, Rio Tinto warned of ongoing cost pressure, lower quality ore output, and significantly greater capex to sustain ore output.

JP Morgan’s 12-month price target on the Fortescue share price dropped $2 to $20 a share. Its target on the Rio Tinto share price was lowered to $102 from $113 a share.

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Motley Fool contributor Brendon Lau owns shares of BHP Billiton Limited, Fortescue Metals Group Limited, and Rio Tinto Ltd. The Motley Fool Australia's parent company Motley Fool Holdings Inc. has no position in any of the stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. 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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