At the heart of value investing is the idea of buying good assets at a discount.
Three stocks trading at a significant discount to their book value today are Anglo American (LSE: AAL), Hunting (LSE: HTG) and Barclays (LSE: BARC).
If trading improves for these companies and their stock rises to its current book value, then today’s investors could see big profits.
Anglo American
Anglo American shares have fallen by 51% so far this year. I bought some during the summer, but I should have waited longer.
The shares now trade at 590p, 40% below their book value of 1,000p. A return to book value could generate a profit of 69%!
However, I think it’s more likely that the book value will fall. Anglo said today that it had cut diamond production by 27% in the face of weak demand. As diamond sales provided 30% of operating profit during the first half of the year, this isn’t good news. It will increase the pressure on the firm to cut debt.
The market already seems to have priced in a dividend cut, as Anglo’s prospective yield of 7.7% is unlikely to be sustainable.
However, cancelling the dividend would only save $1bn. To raise more cash, Anglo might also need to sell some more assets or issue new shares. Both of these measures would reduce book value per share.
Hunting
Oil services firm Hunting has been hard hit by the downturn in the US shale sector. Hunting shares have fallen by 46% over the last twelve months, compared to 18% for Petrofac and 10% for Wood Group, which have less exposure to the US onshore market.
However, Hunting has a fairly strong balance sheet, with net gearing of just 12%. The firm’s board is taking a long-term view of the current oil market downturn and is continuing to invest in new facilities for the future.
Analysts expect Hunting’s earnings per share to hit a low of $0.17 this year, before rising to $0.25 next year. This puts the shares on a 2016 P/E of 25 with a prospective yield of 2.6%.
If the oil market starts to rebalance next year and Hunting’s bet pays off, it could be a smart buy. At 405p, a return to book value could generate a 43% profit.
Barclays
Barclays has been a poor performer this year, despite the arrival of its highly-regarded new chairman, John McFarlane. However, value investing is often a slow process and the bank’s value credentials remain strong, in my opinion.
Barclays trades at a 28% discount to its book value. The shares currently have a 2015 forecast P/E of 10.6, falling to 8.9 in 2016. The dividend yield is expected to rise from 2.6% last year to 3.6% in 2016.
Fundamentals are also improving. Barclays’ common equity tier 1 ratio (CET1) rose from 10.3% at the end of 2014 to 11.1% at the end of June. Return on average shareholders’ equity rose from 6.5% to 7.7% over the same period.
On the other hand, it’s not yet clear how Barclays intends to reshape its investment banking division, nor how successful this will be.
Barclays remains a work in progress with potential, in my view.