What is ‘beta’?

No, we’re not talking about the second letter of the Greek alphabet, the protein conformation, nor the test used in computer programming.

As investors, when we’re talking about beta, we’re talking about risk.

Beta is simply a measure of how a particular stock’s price moves relative to the market as a whole. Usually, analysts use it to measure the volatility of a stock, AKA the likelihood that its value will change dramatically over a short period of time.

Zero-beta stocks

A beta of one indicates that the stock’s price moves exactly with the overall market. For example, if the market goes up 20%, the stock price goes up 20%. If the market goes down 10%, the stock price goes down 10%.

Of course, this is calculated over a period of months, so it does not necessarily hold true on a daily basis.

High and low-beta stocks

As you can probably guess, a highbeta stock is more volatile than the market. In other words, if the market goes up, the stock tends to go up at a greater magnitude. (For example, if the market goes up 10%, the stock might go up 15%). Conversely, a low-beta stock is – you guessed it — less volatile than the market.

Main point: the higher the beta, the more volatile the stock.

Beta of an industry

When referring to an industry, the beta would be used to compare how companies in that industry fare relative to the market. In general, tech stocks have high average betas—which makes sense when you consider the volatility of the technology industry.

Knowing the beta for a certain industry can be useful when you compare companies in that industry. For example, if you know that the beta for telecommunications stocks is 1.3 and you find a company in that industry with a beta of 0.8, this tells you that the company is not only less volatile than the market as a whole, but also extremely stable compared to its industry — which could be good or bad depending on whether you are looking for price stability or rapid price growth.

For more information on beta and other aspects of risk analysis, check out Fool Jim Mueller’s article, or hop on over to our Investing Wiki.

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