Beta Definition, Formula, Calculation, Interpretation, Pros, Cons

Investors keen to bag big capital gains or day traders whats behind the meteoric rise in obscure cryptocurrency cardano looking to make a quick buck from fluctuating share prices would be more interested in high-beta stocks. The share prices of these companies historically have a tendency to jump around quite a bit. Racy stocks, such as tech upstarts with the potential to revolutionize how certain things are done, fall into this category.

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Traders can add additional filters, such as country, exchange, and index. Alternatively, Longer-term investors who favor defensive stocks can use the screener to find candidates with a beta below 1. Understanding how beta is used in real-world investment decisions and portfolio management is essential for investors and financial professionals.

Financial analysis

These estimators attempt to uncover the instant prevailing market-beta. When long-term market-betas are required, further regression toward the mean over long horizons should be considered. Attempts have been made 8 best free and open-source drawing libraries in javascript to estimate the three ingredient components separately, but this has not led to better estimates of market-betas. Most fixed income instruments and commodities tend to have low or zero betas; call options tend to have high betas; and put options and short positions and some inverse ETFs tend to have negative betas. The articles and research support materials available on this site are educational and are not intended to be investment or tax advice. All such information is provided solely for convenience purposes only and all users thereof should be guided accordingly.

It is used in the capital asset pricing model (CAPM) and regression analysis. Basically, the CAPM is used in portfolio management to calculate the expected return of an asset. Essentially, regression analysis is a statistical method used in finance to estimate a link that might exist between two variables, such as a single stock and an entire stock market.

• The covariance of the return of an asset with the return of the benchmark is divided by the variance of the return of the benchmark over a certain period.
• If the β coefficient is greater than 1, then the security’s returns are more likely to respond to movements in the market; more volatile.
• If the coefficient is 1, then the price of the stock or security moves with the market.
• Also, a company with a β of 1.30 is theoretically 30% more volatile than the market.

On average, many securities have a beta coefficient of 1.0, which means that they move more or less in line with the market. A security with a beta coefficient of more than 1.0 is more risky than the average market and is fit for more aggressive investment strategies. On the other hand, those whose beta coefficient is below 1.0 are considered to be less risky, because their performance is less tied to the systematic risk. Moreover, there are assets whose beta is negative, and these tend to have dull returns when the economy is robust, but in a downturn, they have a tendency of outperforming most other investments.

Relationship between own risk and beta risk

Founded in 1993, The Motley Fool is a financial services company dedicated to making the world smarter, happier, and richer. The Motley Fool reaches millions of people every month through our premium investing solutions, free guidance and market analysis on Fool.com, top-rated podcasts, and non-profit The Motley Fool Foundation. Others are willing to take on additional risk for the chance of increased rewards. Every investor needs to have a good understanding of their own risk tolerance, and a knowledge of which investments match their risk preferences. The value of any stock index, such as the Standard & Poor’s 500 Index, moves up and down constantly. At the end of the trading day, we conclude that “the markets” were up or down.

To use this regression function, select Data analysis from the Data Tab of your Excel Worksheet. In this article, we delve into the concept of Beta Coefficient, explaining its significance in finance, providing practical examples, and highlighting its role in investment analysis. Get stock recommendations, portfolio guidance, and more from The Motley Fool’s premium services.

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In the case of levered beta, the beta increases as a company’s total debt level rises. Instead, beta can be used with other metrics like alpha, which tells an investor whether the actual returns on investment exceeded what its beta projected. A benchmark index, such as the S&P 500, is chosen to represent the market in the beta calculation. One year later, Stock OW gained an annual return of 20% while the S&P 500 only grew by 12%.

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The market has a beta coefficient of 1 and beta coefficients of different stocks are measured with reference to the market. Beta is a statistical measure of the volatility of a stock versus the overall market. It’s generally used as both a measure of systematic risk and a performance measure. The beta for a stock describes how much the stock’s price moves compared to the market. If a stock has a beta above 1, it’s more volatile than the overall market. For example, if an asset has a beta of 1.3, it’s theoretically 30% more volatile than the market.

A beta coefficient will show how an asset’s performance is sensitive to systematic risk, which is the risk that can affect an entire market. An investor who is seeking to measure the expected return of a particular stock, for example, will use a stock market index to represent the broad market. The stock market index will normally have a beta coefficient of 1.0, and in theory, a security whose beta is 1.4, for example, will move 1.4 times the move of the index. This means that if the stock market index was to how to buy nxt move up or down by 20 percent, the security would move 28 percent accordingly.