If you are a shareholder in Raven Energy Limited’s (ASX:REL), or are thinking about investing in the company, knowing how it contributes to the risk and reward profile of your portfolio is important. The beta measures REL’s exposure to the wider market risk, which reflects changes in economic and political factors. Not all stocks are expose to the same level of market risk, and the broad market index represents a beta value of one. Any stock with a beta of greater than one is considered more volatile than the market, and those with a beta less than one is generally less volatile.

View our latest analysis for Raven Energy

An interpretation of REL’s beta

With a beta of 1.38, Raven Energy is a stock that tends to experience more gains than the market during a growth phase and also a bigger reduction in value compared to the market during a broad downturn. According to this value of beta, REL can help magnify your portfolio return, especially if it is predominantly made up of low-beta stocks. If the market is going up, a higher exposure to the upside from a high-beta stock can push up your portfolio return.

Does REL’s size and industry impact the expected beta?

REL, with its market capitalisation of AU$19.38M, is a small-cap stock, which generally have higher beta than similar companies of larger size. Moreover, REL’s industry, oil and gas, is considered to be cyclical, which means it is more volatile than the market over the economic cycle. As a result, we should expect higher beta for small-cap stocks in a cyclical industry compared to larger stocks in a defensive industry. This is consistent with REL’s individual beta value we discussed above. Next, we will examine the fundamental factors which can cause cyclicality in the stock.

How REL’s assets could affect its beta

An asset-heavy company tends to have a higher beta because the risk associated with running fixed assets during a downturn is highly expensive. I examine REL’s ratio of fixed assets to total assets to see whether the company is highly exposed to the risk of this type of constraint. Given a fixed to total assets ratio of over 30%, REL seems to be a company which invests a big chunk of its capital on assets that cannot be scaled down on short-notice. As a result, this aspect of REL indicates a higher beta than a similar size company with a lower portion of fixed assets on their balance sheet. This is consistent with is current beta value which also indicates high volatility.

What this means for you:

You could benefit from higher returns from REL during times of economic growth. Its higher fixed cost isn’t a major concern given margins are covered with high consumer demand. Though, in times of a downturn, it may be safe to look at a more defensive stock which can cushion the impact of lower demand. In order to fully understand whether REL is a good investment for you, we also need to consider important company-specific fundamentals such as Raven Energy’s financial health and performance track record. I urge you to complete your research by taking a look at the following: