If you are a shareholder in Mkango Resources Ltd’s (TSXV:MKA), or are thinking about investing in the company, knowing how it contributes to the risk and reward profile of your portfolio is important. There are two types of risks that affect the market value of a listed company such as MKA. The first risk to consider is company-specific, which can be diversified away when you invest in other companies in the same industry as MKA, because it is rare that an entire industry collapses at once. The second risk is market-wide, which arises from investing in the stock market. This risk reflects changes in economic and political factors that affects all stocks.
Different characteristics of a stock expose it to various levels of market risk. The most widely used metric to quantify a stock's market risk is beta, and the market as a whole represents a beta of one. A stock with a beta greater than one is expected to exhibit higher volatility resulting from market-wide shocks compared to one with a beta below one.
What does MKA's beta value mean?
Mkango Resources's beta of 0.22 indicates that the stock value will be less variable compared to the whole stock market. The stock will exhibit muted movements in both the downside and upside, in response to changing economic conditions, whereas the general market may move by a lot more. MKA's beta implies it may be a stock that investors with high-beta portfolios might find relevant if they wanted to reduce their exposure to market risk, especially during times of downturns.
How does MKA's size and industry impact its risk?
A market capitalisation of CAD $4.20M puts MKA in the category of small-cap stocks, which tends to possess higher beta than larger companies. Moreover, MKA’s industry, metals and mining, is considered to be cyclical, which means it is more volatile than the market over the economic cycle. As a result, we should expect a high beta for the small-cap MKA but a low beta for the metals and mining industry. This is an interesting conclusion, since both MKA’s size and industry indicates the stock should have a higher beta than it currently has. There may be a more fundamental driver which can explain this inconsistency, which we will examine below.
Is MKA'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 MKA’s ratio of fixed assets to total assets to see whether the company is highly exposed to the risk of this type of constraint. Since MKA’s fixed assets are only 4.26% of its total assets, it doesn’t depend heavily on a high level of these rigid and costly assets to operate its business. Thus, we can expect MKA to be more stable in the face of market movements, relative to its peers of similar size but with a higher portion of fixed assets on their books. This is consistent with is current beta value which also indicates low volatility.
What this means for you:
Are you a shareholder? You could benefit from lower risk during times of economic decline by holding onto MKA. Its low fixed cost also means that, in terms of operating leverage, it is relatively flexible during times of economic downturns. Consider the stock in terms of your other portfolio holdings, and whether it is worth investing more into MKA.
Are you a potential investor? You should consider the stock in terms of your portfolio. It could be a valuable addition in times of an economic decline, due to its low fixed cost and low beta. However, I recommend you to also look at its fundamental factors as well, such as its current valuation and financial health to assess its investment thesis in further detail.
Beta is one aspect of your portfolio construction to consider when holding or entering into a stock. But it is certainly not the only factor. Take a look at our most recent infographic report on Mkango Resources for a more in-depth analysis of the stock to help you make a well-informed investment decision. But if you are not interested in Mkango Resources anymore, you can use our free platform to see my list of over 50 other stocks with a high growth potential.
To help readers see pass the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned.