Leni Gas and Oil (LSE: LGO) has been one of the top rising AIM listed stocks so far this year. Its ascent has been extraordinary, and a 1,000 investment made at the beginning of the year would have turned into 6,000 at todays price. You know, I think most shareholders would have settled for that.
The stock market hasnt really kicked into gear in 2014. After a great year for shares in 2013, the benchmark FTSE All-Share index has posted a4% declinesince January.
Why, amid a comatose market, has this fledgling small cap rallied so strongly?
When you use your money to invest in shares of a business, the rate of return you can expect is made up of a few factors:
- Part of the rate of return is the time value of money. Youd rather have 100 now than if I promised to give you more than 100 in a years time.
- Part of the rate of return is compensation for the amount of risk youre assuming. In LGOs case, will the company strike oil or not?
LGO has been drilling in Trinidad, which the company believes will create medium and long term value through increases in production over the next few years.
Great!, you might think. We expect that demand for oil is going to increase over the coming years as developing economies continue to grow. Oil is a finite resource, of course, and the result should be that that prices trend upwards. I need to get in on this oil mania!
Its not quite so simple.
Leni is embarking on a 30 well development project at the Goudron field in Trinidad. After successfully drilling the fifth well at the beginning of September, LGO moved its rig to another site and began preparing for production. So far, so good.
The problem is that we could yet see production delays or cost overruns. Given that the share price has risen six fold already, its difficult to assume that theres muchconservatism in the valuation at present. If theres a stutter in executing on its projects then the markets reaction could be fierce.
Where to look for small-cap bargains?
Investing in small-cap companies carries more risk than a safe and steady blue-chip. People are lured by the potential for colossal gains, and investors in LGO need to familiarise themselves with the companies balance sheet. Drilling is expensive, and if there are cost overruns or delays, can it continue to fund its operations?
But if you invest in a quality business, it isn’t necessarily more risky just because of its market cap. The experts at the Motley Fool’s Champion Shares PROwould agree, andare offering their latest share idea for FREEto all readers of this article!
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Mark Stoneshas no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. We Fools don’t all hold the same opinions, but we all believe that considering a diverse range of insights makesus better investors.