If you are a shareholder in Pacific Coast Oil Trust’s (NYSE:ROYT), 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 ROYT’s exposure to the wider market risk, which reflects changes in economic and political factors. Different characteristics of a stock expose it to various levels 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.
An interpretation of ROYT’s beta
With a beta of 2.2, Pacific Coast Oil Trust 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, ROYT 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.
Could ROYT’s size and industry cause it to be more volatile?
ROYT, with its market capitalisation of USD $83.73M, is a small-cap stock, which generally have higher beta than similar companies of larger size. In addition to size, ROYT also operates in the oil and gas industry, which has commonly demonstrated strong reactions to market-wide shocks. 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 supports our interpretation of ROYT’s beta value discussed above.
Is ROYT’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 ROYT’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 that fixed assets make up an insignificant portion of total assets, ROYT doesn’t rely heavily upon these expensive, inflexible assets to run its business during downturns. Thus, we can expect ROYT 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 outcome contradicts ROYT’s current beta value which indicates an above-average volatility.
What this means for you:
Are you a shareholder? You could reap the gains of ROYT’s returns in times of an economic boom. However, during a downturn, a more defensive stock can cushion the impact of this risk. Depending on the composition of your portfolio, high-beta stocks such as ROYT is valuable to pump up your returns, in particular, during times of economic growth. For more company-specific research on ROYT, check out our our free analysis plaform here.
Are you a potential investor? Before you buy ROYT, you should look into its fundamental factors such as its current valuation and financial health. Take into account your portfolio sensitivity to the market before you invest in the stock, as well as where we are in the current economic cycle. ROYT may be a great investment during times of economic growth. Continue your research on the stock with our free fundamental research report for ROYT here.
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.