The mining sector is underperforming the S&P/ASX 200 (Index:^AXJO) (ASX:XJO) index today and it doesn't help that Macquarie Group Ltd (ASX: MQG) has removed two star performers from its buy list.
The mining heavy materials sector has only managed to eke out a gain of 0.3% in after lunch trade when the top 200 stock index has jumped 0.8%.
The Newcrest Mining Limited (ASX: NCM) share price, Evolution Mining Ltd (ASX: EVN) share price and South32 Ltd (ASX: S32) share price is weighing down the sector as they are trading deep in the red.
Why South32 was downgraded
Gold stocks tend to perform poorly when the market is running higher but diversified miner South32 is one that Macquarie has downgraded to "neutral" from "outperform" following its disappointing quarterly production report.
"The weak 3QFY19 result has forced S32 to cut FY19 production guidance by 4-5% for alumina and 6% for thermal coal. We have cut our forecasts to match guidance for the alumina assets but remain below guidance for South African Energy Coal," said the broker.
"Cost guidance remains unchanged; however, we believe misses on cost targets are now likely for a number of assets. Worsley and Cerro Matoso appear most at risk on cost guidance, with the smelters also expected to suffer from elevated cost."
The lower earnings forecasts have significantly lowered Macquarie's price target on South32 to $3.60 from $4.00 a share.
Rising earnings risks for Alumina
But South32 isn't the only one that suffered a chop. Macquarie has also downgraded Alumina Limited (ASX: AWC) share price to "neutral" from "outperform" following the release of the miner's quarterly report.
While Alumina's bauxite and alumina output met expectations, the broker was alarmed that costs came in 11% ahead of its forecasts.
"We have increased our Alumina cash cost assumptions which has driven earnings downgrades," said Macquarie.
"The resumption of full production at Alunorte presents a key downside risk to our alumina price forecasts, and we note at spot prices we see 9% and 6% downside to our CY19 and CY20 earnings forecasts, respectively."
Macquarie lowed its price target on Alumina by 16% to $2.35 a share.
Foolish takeaway
I think there is a read-through for the broader mining sector. Rising costs haven't really been an issue before but we could be starting to see cost inflation becoming a bigger issue for the sector.
I have started to take profit on my strongly overweight positions in the sector as I believe the best and easiest gains are behind the miners.
Don't get me wrong, I see further upside thanks to strong balance sheets among the big resource stocks, but I don't think this is enough to warrant an heavily overweight position in my portfolio – not anymore.
