For all investors, there is a constant trade-off between risk and reward. Clearly, no investment is ever risk-free (with the possible exception of certain government bonds) but some are clearly riskier than others.
Take, for example, Woolworths Limited (ASX: WOW). It appears to be a very risky buy at the present time, with its sales, margins and profitability coming under pressure as Australian consumers are seeing their household budgets come under pressure. Furthermore, the likes of Aldi and Costco are making major inroads into the grocery sector, with the no-frills, discount offering resonating well with shoppers. In addition, Woolworths is on the hunt for a new CEO and there could be major changes made to its strategy – especially since its home improvement business continues to underperform.
That said, Woolworths now offers a relatively wide margin of safety after a share price fall of 22% since the turn of the year, with the company having a price to earnings (P/E) ratio of only 13.7 versus 15.6 for the wider index. And, with the stock yielding 5.2%, it remains a strong income play with turnaround potential over the medium to long term. While, in the short run, its shares could come under pressure, its low share price plus refreshed strategy may begin to deliver positive results for shareholders in 2016 and beyond.
Similarly, Coca-Cola Amatil (ASX: CCL) is undergoing rapid change, although it is probably further down the road to recovery than Woolworths at the present time. Evidence of that can be seen in the company's forecasts, with it expected to increase its bottom line by almost 5% per annum during the next two years as a major cost-cutting and efficiency drive is set to stabilise margins and profitability.
In addition, new product launches have refreshed the company's offering and provide evidence that it is gradually adapting to a more health conscious consumer. And, with major investment in Asia, Coca-Cola Amatil appears to be well-positioned to take advantage of relatively high growth rates, thereby providing a catalyst to push its price to sales (P/S) ratio of 1.4 much higher.
Meanwhile, specialist lender FlexiGroup Limited (ASX: FXL) also appears to be a rather risky buy at the present time, with a deteriorating outlook for the Aussie economy likely to put its near-term financial performance under pressure.
Despite this, FlexiGroup is still forecast to increase its bottom line by almost 6% per annum during the next two years, which makes its P/E ratio of 10.3 appear to offer a very favourable risk/reward ratio. And, with FlexiGroup having taken advantage of discounted valuations to purchase Fisher and Paykel Finance for $275m (utilising a $150m share entitlement offer), its long-term financial future appears to be relatively sound. This, plus a dividend yield of 5.9% means that FlexiGroup's total returns look set to reverse the 15% share price fall experienced over the last year.
