Beta is a term used in the financial and statistical industries. The greek term serves as a coefficient for both industries. In the financial industry Beta is a coefficient that measures stock's market risk. When it comes to stocks, there are two different types of risk, systematic and unsystematic. Systematic risk is unavoidable. Systematic risk reffers to recession or inflation of a market. Unsystematic risk can be eliminated because it is risk referring to product or labor problems. The unsystematic risk can be eliminated through portfolio diversification.
Beta coefficient shows a stock's volatility relative to the market and indicates how risky a stock is if the stock is held in a well- diversified portfolio. Beta measures the systematic risk of an asset. The average Beta is = 1.0 which is the Market beta. If Beta is less than one, the stock is considered less risky than the market. If Beta is greater than one, the stock is considered more risky than the market. If Beta = 0 it is independent of the market.
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| Beta measures the light blue section. |
To estimate beta we must run a regression of the security's past returns against the past returns of the market. The slope you get is going to represent the beta coefficient. What if you get a negative slope? Yes that is also possible too. If the slop is negative, the correlation between the stock and the market is negative. This is a very unlikely situation.
works cited:
Tian, Rulin. "Risk and Return." Finance 320. Barry Hall, Fargo. 16 Nov. 2015. Lecture.
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