Smart investing: Know the beta value of your equity investments

Although they are both can beta be negative indicators, each one has a different purpose. Alpha focuses more on the immediate benefits of investing because it shows the degree of a stock’s return relative to a particular benchmark. Beta, on the other hand, reveals the systematic risk or volatility connected to a stock. The two components of an equation used to describe the performance of stocks and investment funds are alpha and beta.

However, for investors to choose stocks that match their risk appetite is tricky. For example, a high-risk investor who has diversified within asset classes may want to invest in high-risk stocks as they can offer higher returns. On the other hand, an investor who is just starting in the market may want to invest in less risky stocks even though they may offer lower profits. No need to issue cheques by investors while subscribing to IPO. Just write the bank account number and sign in the application form to authorise your bank to make payment in case of allotment. No worries for refund as the money remains in investor’s account.”

Lower-beta stocks pose less risk but generally offer lower returns. Let’s say the beta value of the entire stock market, as measured by an index, is 1. A stock with a beta value of 1 will see its price move with that of the index. Investors with low tolerance for volatility would be happy with a stock that has a beta value of 1 or lower. Beta – also called a beta coefficient, provides you with a measure of the volatility of a mutual fund in relation to its market or representative benchmark. Wealthdesk offers well-researched portfolios called WealthBaskets.

That is why Beta becomes so important in portfolio management and for your investments. After controlling for erratic variations and market-related volatility, alpha is the excess return on an investment. One of the five main risk management metrics for stocks, bonds, and mutual funds is alpha. It sort of informs investors as to whether an asset has consistently outperformed or underperformed what its beta forecasts. Therefore, unlevered beta is an important metric to measure a company’s risk if you do not want to account for its financial leverage.

What does alpha mean in investing?

An asset with a beta of zero means that its price is not at all correlated with the market . Now, you wish to choose a fund from a list that has regularly surpassed the general stock marketplace. You would look at the mutual fund’s Alpha value to see how well it had performed recently and match it with the Alpha value of a benchmark index before selecting the ideal option. Variance denotes the total marketplace return relative to its own mean. Individuals favour high Beta Stocks in the Indian share market with strong risk tolerance, whilst low Beta assets are better suited for investors looking for consistent returns. Β BETA value lower than 1 with a stock implies they are performing lower or close to the overall market.

In a bull market when stock prices are on the rise, this portfolio is not an attractive option for most investors. With little market exposure, the performance is poor compared to a diversified portfolio. However, in a bear market when prices are on the decline, investors tend to invest in risk-free options or short-term ones to protect their investments. Investors with a very low-risk tolerance need to minimize investment risks as much as possible. The Zero-Beta Portfolio is created in such a way that has no systematic risk. The expected returns are low and typically match the risk-free rate of returns.

A stock having a beta coefficient of more than one is deemed to be a risky investment. This indicates that the stock is very volatile, corresponding to the stock market. Having beta to determine volatility, you possibly can better choose those securities that match your criteria for risk. Investors who are likely to handle less risk in their investments may want to invest in stocks with low betas. Those investors who are likely to handle more risk may want to invest in stocks with higher betas. Beta helps you plan your investment better by providing you with a measure of the potential upside and downside with respect to benchmark.

What is beta in finance and what is the use of beta in portfolio management. For that we first need to understand the concept of systematic risk and unsystematic risk. Contrary to systematic risk, unsystematic risk can be diversified. For instance, you are holding cement shares in your portfolio and the risk is high owing to lower construction activities and the business cycle is going down.

It may be that the market is falling continuously, and yet a stock may have a BETA value lower than 1, as it may also be declining continuously. For investors, falling prices are a risk, while climbing prices are a profit opportunity. However, BETA doesn’t clarify this difference, making sense in theory but not in practice. Prevent Unauthorized Transactions in your demat / trading account Update your Mobile Number/ email Id with your stock broker / Depository Participant. Since unlevered beta is the beta of a company without considering the impact of financial leverage, it describes the risk of the company only as a result of its assets, not its debt. Unlevered beta removes any impact of debt or financial leverage, only to isolate the risk contributed by a company’s assets.

Alternatively, such investors can also consider stocks whose beta value is equal to one that indicates similar market fluctuations. Usually, large-cap companies have beta values as one as they are the primary components of the market indices. Even though such securities may not lead to significant returns, stability and high dividend payouts often lead to wealth creation. Also, it can be a good addition for portfolio diversification as these securities can tackle the market downside, which ensures no drastic fluctuation in the stock price.

What are low beta stocks?

Along with alpha, other ratios are used to judge performance of stocks. While alpha in stocks is a measure of performance and returns, beta is a measure of volatility vis-a-vis the market performance or index. In order to get a better picture of the differences between the two, let us first understand what is Alpha and Beta in stocks. Reviewing both of these concepts are certain to add value to your stock investment decisions and will help clarify the specific distinction with respect to alpha vs beta stocks.

This will help you diversify your equity investments, but you have to still deal with Beta (volatility w.r.t. market risk). Now to this mix, if you add other assets with different Beta values such as Debt funds, Gold ETFs, etc., you are allocating your investments in different types of assets. This would help in ensuring better risk balancing and protection of your investments. When the beta coefficient value is greater than one, it implies that they are performing better than the overall stock market. As a result, any fall in the market leads to a severe fall in stocks. Usually, small and mid-cap companies are considered high beta stocks.

What is ‘Beta’

So, while the market is moving in one direction, Beta helps you understand what direction your fund’s return is taking with respect to the market/benchmark movement. In other words, it measures the relative volatility of the mutual fund with respect to its benchmark. This volatility can help the investor in availing returns that can be higher than the market performance. This can be achieved by choosing the right funds with beta values that are in line with your investing goals and risk appetite. Effectively, alpha (returns attributable to the fund manager’s skill) & beta together constitute the total return to an investor. As we see the beta formula in the coming sections, it will help you better understand the beta meaning.

Systematic risk is created by macro factors and impacts all stocks almost uniformly. For example, if the government has decided to demonetize the currency or to raise interest rates or if the US is at war with Syria then it has its impact on all stocks. You cannot diversify such risk and this is the risk you have to live with. Normally, the market expects the fund manager to diversify away the unsystematic risk. Hence the only compensation that is sought by equity investors is for systematic risk.

Looking at the other picture if the beta is low then it will not be even able to make profits in the bull market either thereby justifying that beta cannot be solely considered. Furthermore, beta is calculated by the historical movements displayed by the stock, therefore, it cannot be used for future valuations. So even if the value is high or low it may get of less use to experienced investors. A standard example that is offered for a negative beta investment is gold, which acts as a hedge against higher inflation .

Investing in high-beta stocks exposes an investor’s portfolio to high risk. This can trap investors if other internal factors are not analyzed properly. Through this coefficient, investors can analyze the stock’s past performance with respect to the market’s past performance through a benchmark index. Higher-beta stocks tend to be more volatile and therefore riskier, but provide the potential for higher returns.

This is called market return, and is often adjusted with risk. However, there are many stocks which outperform, usually because of higher earnings. Alpha calculates this difference, by comparing your stock or fund with a benchmark index. It, thus, represents how much value has added or subtracted to total returns.

She brings in financial markets subject matter expertise to the team and create easy going investment content for the readers. One can take advantage of market opportunities by studying this value. For instance, high-beta stocks can help generate high returns. Beta is calculated based on past data and does not guarantee the same data in future. The value of beta changes with the market fluctuations and affects the stock’s volatility too. Furthermore, even assets that, in theory, could have negative betas seem to have positive betas when securitized .

For example, when Beta is 1, then you can say that the fund is perfectly correlated with the market. In this case, if the benchmark index moves up by 10%, then the fund would also move up by 10%. If the market falls by 5%, then the fund would also fall by 5%. If you are interested in measuring Beta, you must use the correct benchmark to generate Beta for the fund. For example, when you evaluate a large-cap fund, you must use a large-cap index as its benchmark and not any other index as the Beta has to be meaningful. For debt funds, you would need to consider the GOI bond index as a reference.

• They have a parallel effect on the share price and returns with market fluctuations in a similar manner compared to the benchmark index.
• On the other hand, if the markets are trading with a negative bias, the buying of put options increases and that reflects in higher readings in the volatility index.
• Alpha measures the additional/excess returns a stock or a security yields over and above the benchmark returns.

Alpha and beta are both used to determine the risk and return of an investment or stock. However, alpha measures the excess return of a stock over the benchmark, whereas beta measures the movement of a stock in comparison to a benchmark. A negative beta correlation would mean an investment that moves in the opposite direction from the stock market. When the market rises, then a negative-beta investment generally falls. When the market falls, then the negative-beta investment will tend to rise. Beta gives you a measure of the volatility of risk related to the benchmark index or how the fund is expected to behave under different market conditions.

Levered beta cannot be used to compare companies with different capital structures. Apple rolls out iOS 16.5 beta 1, iPadOS 16.5 beta 1 to registered developers. Details hereApple’s iOS, iPadOS 16.5 beta 1 encourages app developers to incorporate the latest features and perform API testing in their apps. Basically, there are two types of beta decay; Beta-minus decay and beta plus decay and Beta-plus decay is also known as positron emission. Negative beta decay is also known as Beta-minus decay, Beta articles are electrons with positive electric charge particles or antielectrons. Beta decay occurs only when nucleus have too many electrons or too many protons.

A skilled stock picker is aware of the reasoning behind alpha and knows when to invest in high-alpha stocks depending on the situation. Beta and other risk measures such as Alpha, Sharpe, and Sortino are useful for your fund evaluation and selection. Beta for a fund can be more than 1, less than 1 and sometimes even negative. In the case of negative Beta, the fund & the benchmark are said to be inversely related. Gold ETFs relatively carry a lower Beta value than equity ETFs because their primary motivators are distinct.

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