Definition: Beta, in finance, is measurement of the volatility of an investment in the market relative to other investments.
What Does Beta in Finance Mean?
What is the definition of beta finance? Volatility or risk is determined by how much an investment deviates from the standard either up or down, this is known as standard deviation. The larger an investment deviates from its average price, the more risk it is considered to have; therefore, the higher the beta. A low beta would be less than 1 and a higher beta would be more than one. Betas can also be negative. The importance of beta lies in that it measures how much risk is added when it is appended to other investments and it is unique to the investment it is linked to.
Let’s look at an example.
Example
A new company is offering its stocks to the public and after a while it’s beta indicates that it is highly volatile at 1.44, this means that the stock’s price deviates about 44% from the mean. Most stocks that are derived from technology and are offered through popular exchanges like NASDAQ have higher betas and indicate higher more secure returns on investments. While securities that have lower returns usually have lower betas, like bonds and preferred stocks.
Stocks use benchmarks to determine betas, often large and common indexes are used for this purpose. Things such as government bonds have low bonds but they aren’t zero because they are still affected by the market but are low volatility when compared to other indexes, treasury bonds are hard to find benchmarks for because the stocks other indexes are comprised of don’t resemble government bonds, but the lower the beta the more secure the investment is.
Beta can even be 2 or higher, meaning that on average a stock does twice the performance of the market. Negative betas indicate opposite behavior to the market, so when the market experiences a downturn that security with a negative beta can be expected to climb.
Summary Definition
Define Beta Finance: Beta finance is a measurement of risk associated with the volatility of a stock or investment.
