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If you're interested in Red Hill Iron Limited (ASX:RHI), then you might want to consider its beta (a measure of share price volatility) in order to understand how the stock could impact your portfolio. Modern finance theory considers volatility to be a measure of risk, and there are two main types of price volatility. The first type is company specific volatility. Investors use diversification across uncorrelated stocks to reduce this kind of price volatility across the portfolio. The second type is the broader market volatility, which you cannot diversify away, since it arises from macroeconomic factors which directly affects all the stocks on the market.
Some stocks see their prices move in concert with the market. Others tend towards stronger, gentler or unrelated price movements. Beta can be a useful tool to understand how much a stock is influenced by market risk (volatility). However, Warren Buffett said 'volatility is far from synonymous with risk' in his 2014 letter to investors. So, while useful, beta is not the only metric to consider. To use beta as an investor, you must first understand that the overall market has a beta of one. Any stock with a beta of greater than one is considered more volatile than the market, while those with a beta below one are either less volatile or poorly correlated with the market.
Check out our latest analysis for Red Hill Iron
What we can learn from RHI's beta value
Looking at the last five years, Red Hill Iron has a beta of 1.44. The fact that this is well above 1 indicates that its share price movements have shown sensitivity to overall market volatility. If this beta value holds true in the future, Red Hill Iron shares are likely to rise more than the market when the market is going up, but fall faster when the market is going down. Many would argue that beta is useful in position sizing, but fundamental metrics such as revenue and earnings are more important overall. You can see Red Hill Iron's revenue and earnings in the image below.
Does RHI's size influence the expected beta?
With a market capitalisation of AU$8.2m, Red Hill Iron is a very small company by global standards. It is quite likely to be unknown to most investors. It takes less money to influence the share price of a very small company. This may explain the excess volatility implied by this beta value.
What this means for you:
Since Red Hill Iron tends to moves up when the market is going up, and down when it's going down, potential investors may wish to reflect on the overall market, when considering the stock. In order to fully understand whether RHI is a good investment for you, we also need to consider important company-specific fundamentals such as Red Hill Iron’s financial health and performance track record. I urge you to continue your research by taking a look at the following: