What It Is:
How It Works/Example:
A stock's beta is determined by analyzing how much its return fluctuates in relation to the overall market return. A stock with a beta of 1.0 tend to move higher and lower in lockstep with the overall market. with a beta greater than 1.0 tend to be more volatile than the market, and those with betas below 1.0 tend to be less volatile than the underlying index. with betas of zero generally move independently of the broader market. And finally, with negative betas tend to move in the opposite direction relative to the broader market. When the S&P tumbles, with negative betas move higher, and vice versa.
For example, a with a beta of 2.0 is usually twice as volatile as the broader market. If the S&P 500 were to fall by -10% next , then the would be expected to fall about -20% (assuming that the behaves similar to how it has in the past). The would also be expected to gain more in an up market.
Beta is a measure of systematic risk.
Why It Matters:
Beta can help investors choose investments that match their specific risk preferences. A risk-averse investor, for example, may want to avoid overweighting their portfolio with high-beta to avoid excessive volatility.
Individualbetas are extremely important when putting together a portfolio of assets. A diversified portfolio consisting of assets with different betas lowers the overall risk of the portfolio.