For Toro Energy Limited’s (ASX:TOE) shareholders, and also potential investors in the stock, understanding how the stock’s risk and return characteristics can impact your portfolio is important. Every stock in the market is exposed to market risk, which arises from macroeconomic factors such as economic growth and geo-political tussles just to name a few. This is measured by its beta. Not every stock is exposed to the same level of market risk, and the market as a whole represents a beta 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 Toro Energy

What is TOE’s market risk?

With a beta of 1.53, Toro 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, TOE may be a stock for investors with a portfolio mainly made up of low-beta stocks. This is because during times of bullish sentiment, you can reap more of the upside with high-beta stocks compared to muted movements of low-beta holdings.

How does TOE’s size and industry impact its risk?

TOE, with its market capitalisation of AU$54.22M, is a small-cap stock, which generally have higher beta than similar companies of larger size. Moreover, TOE’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 TOE’s individual beta value we discussed above. Next, we will examine the fundamental factors which can cause cyclicality in the stock.

Is TOE’s cost structure indicative of a high 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 TOE’s ratio of fixed assets to total assets to see whether the company is highly exposed to the risk of this type of constraint. TOE’s fixed assets to total assets ratio of higher than 30% shows that the company uses up a big chunk of its capital on assets that are hard to scale up or down in short notice. Thus, we can expect TOE to be more volatile in the face of market movements, relative to its peers of similar size but with a lower proportion of fixed assets on their books. Similarly, TOE’s beta value conveys the same message.