If you are a shareholder in Silk Road Energy Inc’s (TSXV:SLK), or are thinking about investing in the company, knowing how it contributes to the risk and reward profile of 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. 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 Silk Road Energy
An interpretation of SLK's beta
With a beta of 1.3, Silk Road 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, SLK will help diversify your portfolio, if it currently comprises of low-beta stocks. This will be beneficial for portfolio returns, in particular, when current market sentiment is positive.
Could SLK's size and industry cause it to be more volatile?
A market capitalisation of CAD $300.32K puts SLK in the category of small-cap stocks, which tends to possess higher beta than larger companies. In addition to size, SLK also operates in the oil, gas and consumable fuels industry, which has commonly demonstrated strong reactions to market-wide shocks. Therefore, investors may expect high beta associated with small companies, as well as those operating in the oil, gas and consumable fuels industry, relative to those more well-established firms in a more defensive industry. This is consistent with SLK’s individual beta value we discussed above. Fundamental factors can also drive the cyclicality of the stock, which we will take a look at next.
Is SLK'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 SLK’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%, SLK 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 SLK 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. This is consistent with is current beta value which also indicates high volatility.