correlation How can beta be negative? Quantitative Finance Stack Exchange

Thus another occasional choice would be the use of international indexes, such as the MSCI EAFE. However, even these indexes have returns that are surprisingly similar to the stock market. Once you’ve calculated the beta of a stock, it can then be used to tell you the relative correspondence of price movements in that stock, given the price movements in the broader market as a whole. Investors who are very risk-averse should put their money into assets with low betas, such as utility stocks and Treasury bills.

The company was founded in 1953, generates about $545 million in annual revenue, and trades with a market cap of $2.3 billion. While the CAPM certainly isn’t perfect, it is relatively easy to calculate and gives investors a means of comparison between two investment alternatives. The result, expressed as a number, shows the security’s tendency to move with the benchmark.

Obviously if ur using the CAPM to arrive at cost of capital in a situation of the firm having negative beta, ur cost of capital will be lower than ur risk free rate. To ‘unlever’ the beta, the levered beta for the company has to be known in addition to the company’s debt-equity ratio and corporate tax rate. Take a company that is increasing its debt thus raising its debt-to-equity ratio. This will lead to a larger percentage of earnings being used to service that debt which will amplify investor uncertainty about future earnings stream. Consequently, the company’s stock is deemed to be getting riskier but that risk is not due to market risk. A security’s β should only be used when its high R-squared value is higher than the benchmark.

Analysis On The S&P 500 Stocks With Negative Beta

Thus insured, movements of the overall stock market no longer influence the combined position on average. When the market rises, then a negative-beta investment generally falls. When the market falls, then the negative-beta investment will tend to rise. In investing, beta does not refer to fraternities, product testing, or old videocassettes. That is, it indicates how much the price of a stock tends to fluctuate up and down compared to other stocks.

When used within the context of the CAPM, beta becomes a measure of the appropriate expected rate of return. By definition, the value-weighted average of all market-betas of all investable assets with respect to the value-weighted market index is 1. Stocks with negative betas are expected to move inversely to the broader market. Negative-beta stocks could be particularly appealing in a recession or a market downturn. Instead, use the unlevered beta to compare the betas of two different companies.

  • When long-term market-betas are required, further regression toward the mean over long horizons should be considered.
  • A standard example that is offered for a negative beta investment is gold, which acts as a hedge against higher inflation (which devastates financial investments such as stocks and bonds).
  • In fund management, adjusting for exposure to the market separates out the component that fund managers should have received given that they had their specific exposure to the market.
  • Investors who are willing to take on more risk may want to invest in stocks with higher betas.
  • Beta is a calculation investors use to measure the volatility of a security or a portfolio compared to the market as a whole.

Gold and gold stocks are likely to have negative betas since these are assets that appreciate when the market declines. Generally, stocks that have a high or positive beta coefficient are riskier and more volatile than those with a lower beta value. This does not mean, however, that stocks with a negative beta coefficient have no inherent risks. Furthermore, even assets that, in theory, could have negative betas (gold, for instance) seem to have positive betas when securitized (gold shares, gold ETF).

For example, a gold exchange-traded fund (ETF), such as the SPDR Gold Shares (GLD), is tied to the performance of gold bullion. Consequently, a gold ETF would have a low beta and R-squared relationship with the S&P 500. Amanda Bellucco-Chatham is an editor, writer, and fact-checker with years of experience researching personal finance topics. Specialties include general financial planning, career development, lending, retirement, tax preparation, and credit.

Beta radiation has a negative charge because it contains particles similar to an electron. It contains the same mass as an electron, and the mass is lower than proton and neutron masses. Also, each particle contains a single negative charge, making the radiation negatively charged. A-Mark has a number of brands that are consumer-facing, helping it to have a wide range of customers in a variety of markets.

How Stocks Behave During Hyperinflation

RFR stands for the rate of return on a selected Treasury asset that bears no risk. In fund management, adjusting for exposure to the market separates out the component that fund managers should have received given that they had their specific exposure to the market. For example, if the stock market went up by 20% in a given year, and a manager had a portfolio with a market-beta of 2.0, this portfolio should have returned 40% in the absence of specific stock picking skills. This is measured by the alpha in the market-model, holding beta constant. Despite these problems, a historical beta estimator remains an obvious benchmark predictor.

Examples of Beta

That is, a company with a beta of one has the same systematic risk as the broader market. A beta of two means the company is twice as volatile as the overall market, but a beta of less than one means the company is less volatile and presents less risk than the broader market. Beta is a statistical measure that compares the volatility of the price of a stock against the volatility of the broader market. If the volatility of the stock, as measured by beta, is higher, the stock is considered risky.

Negative Beta

A stock with a beta value of 1 is just as risky as the stock market as a whole, and its price change generally tracks that of the index. Investors with low tolerance for volatility would seek a stock with a beta value of 1 or lower. The change in price of an option relative to the change in the price of the underlying asset (for example a stock) is not constant. For example, if one purchased a put option on the S&P 500, the beta would vary as the price of the underlying index (and indeed as volatility, time to expiration and other factors) changed. The arbitrage pricing theory (APT) has multiple factors in its model and thus requires multiple betas.

Each week, Zack’s e-newsletter will address topics such as retirement, savings, loans, mortgages, tax and investment strategies, and more. Founder/president of the innovative reference publisher The Archive LLC, Tom Streissguth has been a self-employed business owner, independent bookseller and freelance author in the school/library market. Holding a bachelor’s degree from Yale, Streissguth has published more than 100 works of history, biography, current affairs and geography for young readers. As a low-priced retailer with a broad range of products, Walmart does a relatively steady business no matter what the prevailing economic conditions are.

Is a negative beta good?

Beta measures systematic risk, which is the risk inherent to the market or market segment. Investors use a stock’s beta to estimate how much risk the stock might potentially add or subtract from a diversified portfolio. The first, and simplest, way is to use the company’s historical β or just select the company’s beta from Bloomberg. The second, and more popular, way is to make a new estimate for β using public company comparables. To use the comparables approach, the β of comparable companies is taken from Bloomberg and the unlevered beta for each company is calculated.

If you’re risk averse, then look for a stock with a beta value at or below 1.0. If you’re looking for something more exciting, then consider a stock with a value of above 2.0. Basic financial questions are off-topic as they are assumed to be common knowledge for those studying or working in the field of quantitative finance.

Interpreting Beta

Covariance is how you measure a changing relationship between two entities. In this case, covariance will show you how changes in stock returns relate to changes in market returns. Beta, often represented by the Greek letter β, is a way of measuring the volatility of the returns you get from an investment. Volatility is a measure of how much and how quickly the value of an asset rises and falls. In financial markets, risk and volatility are closely related concepts. The beta value of the entire stock market, as measured by indexes such as the Standard & Poor’s 500, is 1.