Before You Buy Five Prime Therapeutics Inc's (NASDAQ:FPRX), Consider This

If you are looking to invest in Five Prime Therapeutics Inc’s (NASDAQ:FPRX), or currently own the stock, then you need to understand its beta in order to understand how it can affect the risk of your portfolio. Broadly speaking, there are two types of risk you should consider when investing in stocks such as FPRX. 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 considered more sensitive to market-wide shocks compared to a stock that trades below the value of one.

An interpretation of FPRX's beta

Five Prime Therapeutics’s five-year beta of 3.43 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, FPRX 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 FPRX's size and industry cause it to be more volatile?

A market capitalisation of US$615.46M puts FPRX in the category of small-cap stocks, which tends to possess higher beta than larger companies. Conversely, the company operates in the biotechs industry, which has been found to have low sensitivity to market-wide shocks. As a result, we should expect a high beta for the small-cap FPRX but a low beta for the biotechs industry. This is an interesting conclusion, since its industry suggests FPRX should be less volatile than it actually is. There may be a more fundamental driver which can explain this inconsistency, which we will examine below.

Is FPRX's cost structure indicative of a high beta?

During times of economic downturn, low demand may cause companies to readjust production of their goods and services. It is more difficult for companies to lower their cost, if the majority of these costs are generated by fixed assets. Therefore, this is a type of risk which is associated with higher beta. I test FPRX’s ratio of fixed assets to total assets in order to determine how high the risk is associated with this type of constraint. Given that fixed assets make up less than a third of the company’s total assets, FPRX doesn’t rely heavily upon these expensive, inflexible assets to run its business during downturns. As a result, the company may be less volatile relative to broad market movements, compared to a company of similar size but higher proportion of fixed assets. This outcome contradicts FPRX’s current beta value which indicates an above-average volatility.

What this means for you:

You may reap the gains of FPRX's returns during times of economic growth by holding the stock. Its low fixed cost also implies that it has the flexibility to adjust its cost to preserve margins during times of a downturn. I recommend analysing the stock in terms of your current portfolio composition before deciding to invest more into FPRX. What I have not mentioned in my article here are important company-specific fundamentals such as Five Prime Therapeutics’s financial health and performance track record. I urge you to complete your research by taking a look at the following:

1. Future Outlook: What are well-informed industry analysts predicting for FPRX’s future growth? Take a look at our free research report of analyst consensus for FPRX’s outlook.
2. Past Track Record: Has FPRX been consistently performing well irrespective of the ups and downs in the market? Go into more detail in the past performance analysis and take a look at the free visual representations of FPRX's historicals for more clarity.
3. Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.

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Simply Wall St analyst Simply Wall St and Simply Wall St have no position in any of the companies mentioned. This article is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.