Today, you can buy stocks of the largest companies online. Electronic platforms and modern brokerage services allow us to trade from the comfort of our homes. In India, a live trading account opens a world of opportunities. Betas are used to spot the most lucrative stock. Here is how to use them correctly.
Definition of the Measurement
Beta measures volatility, or market risk, for a given instrument. Traders and investors use it to see which options fit within their comfort zone. However, it is not that simple. Often, different sites report different betas for the same instrument. Let’s see what makes it possible and how to use the measurements wisely.
How Betas Work
This indicator is based on regression analysis. It is defined as a score that measures risk, or volatility, for stock against the rest of the market. Usually, it is applied to the S&P 500 index, which reflects the stock performance of 500 leading U.S. corporations.
- The beta of the marketplace itself is 1.
- If stocks are more volatile than the market, they get a beta over 1.
- For less volatile equity, beta is lower than 1.
Looking at the score, investors can deduce how much of their investment a certain stock can return. For instance, if the beta is 0.7, the stock can be expected to perform worse than the market in general. In this example, it may return only 70% as much. On the other hand, stocks with a beta of 1.3 perform 30% better than the overall market.
How Betas Are Calculated
Volatility can be assessed in several ways. Beta is always based on a number of variables. One of them shows how far back your calculation looks. Two periods exist – three years and five years. This and other elements can vary, which explains the difference between data from different sites.
Usually, you won’t find any information about the variables considered. Most platforms only reflect the data they bought from vendors. Traders in India can find detailed information on FXTM stock trading and recommended indicators on the Forextime website. This company is a trusted global brokerage with a wide range of financial services.
Experts recommend you choose trusted sources. For the purpose of company comparison, always stick to the same resource. This way, your analysis will be consistent.
The Correct Way to Use It
By definition, beta is only a historical indicator. It is mostly useful for short-term measurement. If you notice that your stock is fluctuating, you can look at its beta to see where it is most likely to go.
The score reflects how the stock reacts to systemic changes in the market. For example, if the interest rates fall, you can see how the instrument reacted to similar changes in the past relative to the rest of the market.
Betas show whether security generally moves in the same direction as the market itself. You can gauge how risky or volatile it is in comparison. The market always serves as the benchmark for calculations.
Therefore, it is always related to the stock assessed. For instance, you would not calculate beta for a bond relative to a stock market. These are too dissimilar.
A stock’s R-squared value is extremely important. It shows whether the things compared are actually related. The measure shows how much the price dynamics for an instrument depended on changes in the benchmark index. The higher the R-squared value – the more accurate the beta measurement.
What Beta Won’t Tell You
Beta calculations say nothing about the future. They only describe past movements of stocks. They also provide no information regarding the issuing company’s strengths and weaknesses. The effects of legislation are not covered, either.
Strengths and Weaknesses of Beta
If you are choosing stocks to add to your portfolio, beta is a valuable indicator. You can gauge how much risk you are taking on. Securities which do not deviate much from the market add little risk. At the same time, you should not expect high returns.
Make sure your beta scores come from the same source. Measurements differ across platforms, and it is the only way to ensure consistency. Otherwise, your comparison of companies will be flawed. Betas are most helpful when it comes to the prediction of short-term price changes. Do not expect anything bigger than this.
Disclaimer: This is a paid article. KryptoMoney does not endorse and is not responsible for or liable for any content, accuracy, quality, advertising, products, or other materials on this page. Readers should do their own research before taking any actions related to the company. KryptoMoney is not responsible, directly or indirectly, for any damage or loss caused or alleged to be caused by or in connection with the use of or reliance on any content, goods, or services mentioned in the article.