While the FTSE 100 has reached a record high this year, some smaller companies continue to trade on relatively low valuations. In some cases this is due to weakness in their particular sector, with investor sentiment remaining subdued because of the potential risks involved. However, low valuations can also mean high possible rewards in the long run. With that in mind, here are two small-caps which seem to offer favourable risk/reward ratios at the present time.
Updating the market on Tuesday was oil and gas company President Energy (LSE: PPC). The company reported that it has already banked the proceeds from its first delivery of oil from the Puesto Flores Field. The acquisition of the asset, together with the neighbouring Estancia Vieja Field, was announced just a month ago and the proceeds received of $1.5m represent the revenue from the first shipment of oil under the company’s own steam.
The news has been greeted positively by investors, with its share price rising by 7%. This takes the gain over the last year to 40%, and more growth could lie ahead.
The business is focused on improving profitability and generating positive cash flow. In fact, next year it is forecast to move from a loss-making position to a profitable one. This has the potential to catalyse investor sentiment yet further – especially since the stock trades on a forward price-to-earnings (P/E) ratio of under 20.
Given the company’s growth potential in the long run, its valuation could move higher over the medium term. This means that while there are a number of energy stocks which could be worth buying right now, President Energy’s risk/reward ratio appears to be relatively favourable.
Also offering what seems to be an attractive risk/reward ratio within the energy sector is Enquest (LSE: ENQ). The UK- and Malaysia-focused oil and gas company is expected to improve on what may prove to be a tough 2017.
It’s due to move into the red this year, but then move back into the black in 2018. This improved outlook, however, does not seem to have been factored in by the market, since the stock trades on a forward P/E of 8.9. This suggests that the company’s share price could make a recovery after falling by 12% in the last year.
Of course, the outlook for the oil price is hugely uncertain. It could make a significant impact on Enquest’s earnings outlook and, having recently reached a two-year high, its prospects now appear to be rather encouraging.
Clearly, though, volatility is unlikely to disappear anytime soon and oil and gas companies could see their share prices move wildly in either direction in the short run. As such, with Enquest (and President Energy) being relatively small players, risk averse investors may prefer a stock with more size and scale. But based on their risk/reward ratios, they both appear to be worth buying for the long term.
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Peter Stephens has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.