S&P/ASX 200 Index (ASX: XJO) shares can be leaders at what they do and deliver good returns. Fund manager L1 Capital has named three stocks that it thinks are undervalued.
The investment team think valuations are stretched for a number of the large US tech shares and the big ASX blue chips, as well as growth shares trading on high multiples of their earnings.
L1 Capital thinks there are numerous "compelling opportunities" in low price/earnings (P/E) ratio businesses which are "highly cash generative companies" despite the share market being "fully priced".
2024 could see a significant increase in merger and acquisition activity, which "should be skewed to undervalued, under geared and strategic assets".
Let's have a look at which businesses L1 likes at the moment.
Mineral Resources Ltd (ASX: MIN)
L1 noted the iron ore price has strengthened recently, which helped the Mineral Resources share price climb during December.
However, the lithium price has seen weakness as it adjusted from a "significant supply deficit to a more balanced outlook in the short-term".
The fund manager points out Mineral Resources' exposure to iron ore is expected to increase due to progress on its Onslow iron project, which is "set to transform Mineral Resources' existing smaller-scale iron ore business into a sizeable, long-life, low-cost operation". The first production is expected in June 2024.
The lithium segment is forecast to more than double production over the coming years to more than 1,000kt of spodumene concentrate.
L1 finished its commentary on the ASX 200 share with the following thoughts:
We continue to believe that all key areas of Mineral Resources' core business (iron ore, lithium, mining services and gas) have favourable medium-term tailwinds and the shares remain undervalued.
BlueScope Steel Limited (ASX: BSL)
BlueScope is a steel producer in Australia and the US. It has recently benefited from higher steel prices, with US steel prices going up 9% in December and it's up 61% in the three months to December 2023 after a resolution of the United Auto Workers strike.
L1 suggested that the combination of US steel delivery lead times and prices being "well above" historic averages should provide a "strong tailwind" for the company's second-half earnings.
The fund manager also pointed out Nippon Steel's agreement to buy US Steel for around US$14 billion "bodes well for the potential future value of BlueScope's US operations".
BlueScope is looking to grow in the US by expanding its capacity at its North Star facility in Ohio by 850kt per annum, acquiring the US' second largest metal coating and painting company (Coil Coatings) and establishing a recycling division after buying the MetalX recycling business.
L1 finished its thoughts on the ASX 200 share by saying:
We continue to believe the market significantly undervalues BlueScope's unique and strategic asset base and the resilience of the largely consolidated U.S. steel sector.
Santos Ltd (ASX: STO)
Santos is one of the biggest oil and LNG ASX shares. L1 is excited about this ASX 200 share after the announcement of preliminary discussions of a possible merger with Woodside Energy Group Ltd (ASX: WDS), as well as the announcement that Santos is looking at "a range of alternative structural options for unlocking value in Santos."
The fund manager sees these recent developments at Santos as reflective of L1's core investment thesis that the company's asset base has been "materially undervalued by the market and that structural options (eg demerger, asset sales) should be explored to close the valuation gap."
