What is beta meaning in finance
What is beta meaning in finance
Beta meaning in finance deals with the study of volatility of investment in the market. In Beta formula, beta is less than one is usually indicated as that the market is more volatile than the investment while the beta greater than one shows that market is less volatile than the investment. The price fluctuation around the mean standard deviation measures the volatility. What is Beta in finance, it is exactly one in the market with invest-able assets.
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It is a measure of risk that arises as a result of exposure to the movement of the general market that opposes idiosyncratic factors. Lower volatility of an investment than the market indicates that beta is below one and the price movement of investment are not correlating with market.
An example is the case of treasury bill whose price do not neither go up nor come down leaving it low beta unlike commodity like diamond or jewelries whose price do go up and down often but not the same time or at the same level. This type of commodity has a high beta. Generally, an asset that goes up and down is volatile and this is refer to as beta greater than one. When investment goes high and the market goes low, positive beta is experienced at this stage so also if the investment goes low while the market is high, the negative beta occurs.
One of the major advantage of beta is that it studies the securities and risk in investment. It is important as diversification cannot reduce some investment risk but negative beta will always measure the risk in finance. Generally, how to calculate beta of a portfolio, it measures the risk of the capital that arises from the exposure to a benchmark instead of exposure to the whole market portfolio. The tendency of company that has a higher beta coefficient to reduce to beta coefficient that is lower is referred to as Beta decay.
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Historical beta is the beta that has been inputted for prices in the past in which the data is known. Although what most financial managers are interested in is the future beta. Correlated relative volatility which has the three basic components has its explanation from the guess that future beta can be equals to the historical beta. These three components are stated above with the code correlated relative volatility i.e. correlated, relative and volatility. Manager skills is thought to be separated from his willingness to take risk in fund or finance management when the beta is being measured.
The absolute value of beta greater than one may have the stock profit should vary more than the profit for the market with time while a stock whose profit is lesser than the market profit has its absolute value being less than one. The stock returns can go higher or lower with 8% when the market returns rise or falls by 4% and this is caused by the twice in the magnitude of the general or whole market when the stock has its beta has two.
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Stocks with higher beta are riskier and more volatile but usually provide the potential for the stock returns to be higher while lower beta on the other hand has a lower risk and are less volatile consequently generating returns that are lower for the stocks.
Economist believes that investment with higher risk in the long term always have higher returns, all things being equal. So, a very rational investor should consider higher beta to lower beta as the lower beta meaning pose a lower risk consequently generating lower returns for the company unlike the higher beta with lower risk which consequently generate a higher return to the company.
In a company, the beta must be estimated. To estimate beta, the lists of the assets returns are needed and the index returns. These returns can be periodically or daily or weekly then linear regression which has the standard formula is used. The estimated beta meaning is the slope that is fitted from the calculation of the linear least- squares. The volatility ratio which is multiplied by the plotted data correlation gives specifically the beta.
When beta is less than one, it indicates that the volatility of the investment is lesser than the market. This has lower risk and the returns are usually low.
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When beta finance is greater than one, it indicates that the volatility of the investment is greater than the market and this has higher risk making the returns to be higher.