How Should You Think About Niko Resources Ltd’s (TSX:NKO) Risks?
If you are a shareholder in Niko Resources Ltd’s (TSX:NKO), 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 NKO. The first risk to think about is company-specific, which can be diversified away by investing in other companies in order to lower your exposure to one particular stock. The other type of risk, which cannot be diversified away, is market risk. Every stock in the market is exposed to this risk, which arises from macroeconomic factors such as economic growth and geo-political tussles just to name a few.
Not all stocks are expose to the same level of market risk. A widely-used metric to measure a stock's market risk is beta, and the broad market index represents a beta value 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.
View our latest analysis for Niko Resources
What is NKO’s market risk?
Niko Resources’s five-year beta of 9.28 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. According to this value of beta, NKO 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.
Does NKO's size and industry impact the expected beta?
With a market cap of CAD $5.64M, NKO falls within the small-cap spectrum of stocks, which are found to experience higher relative risk compared to larger companies. Moreover, NKO’s industry, energy, is considered to be cyclical, which means it is more volatile than the market over the economic cycle. 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 is consistent with NKO’s individual beta value we discussed above. Next, we will examine the fundamental factors which can cause cyclicality in the stock.
How NKO's assets could affect its 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 test NKO’s ratio of fixed assets to total assets in order to determine how high the risk is associated with this type of constraint. NKO'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. As a result, this aspect of NKO indicates a higher beta than a similar size company with a lower portion of fixed assets on their balance sheet. Similarly, NKO’s beta value conveys the same message.
What this means for you:
Are you a shareholder? You may reap the gains of NKO's returns in times of an economic boom. Though the business does have higher fixed cost than what is considered safe, during times of growth, consumer demand may be high enough to not warrant immediate concerns. However, during a downturn, a more defensive stock can cushion the impact of this risk.
Are you a potential investor? Before you buy NKO, you should factor how your portfolio currently moves with the wider market, and where we are in the economic cycle. This stock could be an outperformer during times of growth, and it may be worth taking a deeper dive into the fundamentals to crystalize your thoughts on NKO.
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 Niko 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 Niko 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.
