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Key indicator says it’s time to buy Canadian miners

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The S&P/TSX Diversified Mining index recently bounced off the same valuation level, at about six times forward cash flow, for the fifth time since 2006. The statistical history does not go far enough back to bet big money on the trend, but investors in the sector should pay close attention for buying opportunities if the index hits the same mark again.

Bloomberg began tracking forward valuation multiples for major Canadian subindices in 2006, so those are the only numbers we have. Despite the short history, it's apparent from the chart that domestic mining stocks follow a distinct trend: six times forward cash flow has acted as a floor for the mining index.

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Each of the rallies for the index when the multiple breached the six times level – beginning in January 2007, June 2010, September 2011 and May 2012 – have been significant. Importantly, the economic and market backdrop was markedly different each time.

Most recently, the index has rallied seven per cent since the short term bottom on June 21 of 2013.

I'm making no guarantees about how far this goes. The six times level is a signal to look, but there are a ton of other factors to consider in your research including Chinese metal demand, operational risks within each mining company and the U.S. dollar. Also, analysts' projections could be way off base. But cash flow analysis is among the best means to identify value in the sector and it's clear that, at least in the past five years, six times has played the role of "cheap enough to buy."

Scott Barlow is a contributor to ROB Insight, the business commentary service available to Globe Unlimited subscribers. Click here to read more of his Insights , and follow Scott on Twitter at @SBarlow_ROB .

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