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If you are looking to invest in EROAD Limited’s (NZSE:ERD), or currently own the stock, then you need to understand its beta in order to understand how it can affect the risk of your portfolio. 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. Different characteristics of a stock expose it to various levels of market risk, and the market as a whole 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 EROAD
What does ERD’s beta value mean?
EROAD has a beta of 1.36, which means that the percentage change in its stock value will be higher than the entire market in times of booms and busts. A high level of beta means investors face higher risk associated with potential gains and losses driven by market movements. Based on this beta value, ERD 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.
Could ERD’s size and industry cause it to be more volatile?
A market capitalisation of NZ$234.48M puts ERD in the category of small-cap stocks, which tends to possess higher beta than larger companies. In addition to size, ERD also operates in the electronic industry, which has commonly demonstrated strong reactions to market-wide shocks. So, investors should expect a larger beta for smaller companies operating in a cyclical industry in contrast with lower beta for larger firms in a more defensive industry. This supports our interpretation of ERD’s beta value discussed above. Next, we will examine the fundamental factors which can cause cyclicality in the stock.
How ERD’s assets could affect its beta
During times of economic downturn, low demand may cause companies to readjust production of their goods and services. It is more difficult for companies to lower their cost, if the majority of these costs are generated by fixed assets. Therefore, this is a type of risk which is associated with higher beta. I examine ERD’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%, ERD seems to be a company which invests a big chunk of its capital on assets that cannot be scaled down on short-notice. Thus, we can expect ERD 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, ERD’s beta value conveys the same message.