Definition: Stock beta, represented by the beta coefficient, is an investment metric that assesses the risk and associated volatility of a certain investment in relation to the market. In laymen’s terms, it’s an estimate of the stock’s risk or volatility in comparison to what the market reflects as the average risk.
What Does Stock Beta Mean?
What is the definition of stock beta? The beta coefficient is calculated by using a regression analysis. If the coefficient is exactly 1, then the stock’s volatility matches that of the market. If the coefficient is greater than 1, then the stock is deemed to be more volatile than the market and if it’s less than 1 then the stock is deemed to be safer.
This calculation is used to analyze the stock’s response to fluctuations in the market. The maximum and minimum beta values are 2 and 0 respectively. Each tenth of a point represents the percentage of volatility. For example, if a stock beta value is 1.1, then it is considered to have a 10 percent greater volatility than the market.
Let’s take a look at an example.
Example
Johnny has purchased stock in the company Big Airlines. Johnny wants to assess the total risk of his stock in this airline company, so he asks his accountant to provide the investment’s beta coefficient. His accountant looks at the investment’s historical responses to the market and uses this data to run a regression analysis.
Once he obtains the R-squared value he compares this value to a benchmark index such as the S&P 500 or Nasdaq-100. The accountant finds that the airline’s beta coefficient is .7. The accountant tells Johnny that the investment’s volatility is 30 percent less than that of the market it is in. The accountant also informs Johnny that he can expect the investment to underperform by 30 percent when markets are up and overperform by 30 percent when markets are down.
Summary Definition
Define Stock Beta: Stock beta means a measurement investors use to gauge the volatility and risk of a stock or investment relative to the market.
