If you are a shareholder in Segue Resources Limited’s (ASX:SEG), 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 SEG. The first risk to consider is company-specific, which can be diversified away when you invest in other companies in the same industry as SEG, because it is rare that an entire industry collapses at once. The second type is market risk, one that you cannot diversify away, since it arises from macroeconomic factors which directly affects all the stocks in the market.
Not every stock is exposed 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 considered more sensitive to market-wide shocks compared to a stock that trades below the value of one.
What does SEG's beta value mean?
Segue Resources’s beta of 0.54 indicates that the company is less volatile relative to the diversified market portfolio. This means that the change in SEG's value, whether it goes up or down, will be of a smaller degree than the change in value of the entire stock market index. SEG’s beta indicates it is a stock that investors may find valuable if they want to reduce the overall market risk exposure of their stock portfolio.
Could SEG's size and industry cause it to be more volatile?
With a market cap of AUD $7.42M, SEG falls within the small-cap spectrum of stocks, which are found to experience higher relative risk compared to larger companies. In addition to size, SEG also operates in the materials 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 materials industry, relative to those more well-established firms in a more defensive industry. It seems as though there is an inconsistency in risks portrayed by SEG’s size and industry relative to its actual beta value. There may be a more fundamental driver which can explain this inconsistency, which we will examine below.
Is SEG'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 SEG’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%, SEG 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 SEG 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. However, this is the opposite to what SEG’s actual beta value suggests, which is lower stock volatility relative to the market.
What this means for you:
Are you a shareholder? SEG may be a worthwhile stock to hold onto in order to cushion the impact of a downturn. Depending on the composition of your portfolio, low-beta stocks such as SEG is valuable to lower your risk of market exposure, in particular, during times of economic decline.
Are you a potential investor? Before you buy SEG, you should look at the stock in conjunction with their current portfolio holdings. SEG may be a great cushion during times of economic downturns due to its low beta. However, its high fixed cost may mean margins are squeezed if demand is low. I recommend taking into account its fundamentals as well before leaping into the investment.
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 Segue 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 Segue 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.