Can Kosmos Energy Ltd (KOS) Improve Your Portfolio Returns?
For Kosmos Energy Ltd’s (NYSE:KOS) shareholders, and also potential investors in the stock, understanding how the stock’s risk and return characteristics can impact your portfolio is important. Broadly speaking, there are two types of risk you should consider when investing in stocks such as KOS. The first type is company-specific risk, which can be diversified away by investing in other companies to reduce exposure to one particular stock. 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.
See our latest analysis for KOS
What is KOS’s market risk?
Kosmos Energy’s five-year beta of 1.56 means that the company’s value will swing up by more than the market during prosperous times, but also drop down by more in times of downturns. This level of volatility indicates bigger risk for investors who passively invest in the stock market index. Based on this beta value, KOS 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.
How does KOS's size and industry impact its risk?
With a market capitalisation of USD $2.77B, KOS is considered an established entity, which has generally experienced less relative risk in comparison to smaller sized companies. Conversely, the company operates in the energy industry, which has been found to have high sensitivity to market-wide shocks. Therefore, investors can expect a low beta associated with the size of KOS, but a higher beta given the nature of the industry it operates in. It seems as though there is an inconsistency in risks from KOS’s size and industry. A potential driver of this variance can be a fundamental factor, which we will take a look at next.
Can KOS's asset-composition point to a higher 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 KOS’s ratio of fixed assets to total assets to see whether the company is highly exposed to the risk of this type of constraint. KOS'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 KOS 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.
What this means for you:
Are you a shareholder? You could benefit from higher returns from KOS during times of economic growth. Its higher fixed cost isn’t a major concern given margins are covered with high consumer demand. However, in times of a downturn, it may be safe to look at a more defensive stock which can cushion the impact of lower demand.
Are you a potential investor? I recommend that you look into KOS's fundamental factors such as its current valuation and financial health as well. 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. KOS may be a great investment during times of economic growth.
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 Kosmos Energy 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 Kosmos Energy 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.
