What is beta?
Beta is the measure of the risk or volatility of a portfolio or investment compared with the market as a whole. Beta is used in the Capital Asset Pricing Model (CAPM) to help calculate the expected return of an asset.
Beta represents how a security responds to market swings. A beta of 1 is an indication that the price of the security moves with the market. A beta of less than 1 means that the security is less volatile than the market. A beta of more than 1 means the security is more volatile than the market overall.
For those who follow CAPM, beta is a significant measure. The price variability of a stock is important in the assessment of risk. Indeed, when thinking about risk as the possibility of a stock losing value, beta becomes a proxy for risk. Look at it in terms of an early technology stock with a price that moves up and down more than the market does. This would naturally lead you to think that the stock is riskier than a utility industry stock with a low beta.
Beta offers a quantifiable and clear measurement. There are variations in beta based on things such as the market index used and the time period measured, but when looked at in a broad context, beta is basically straightforward.
Example of beta
An exchange-traded fund, or ETF, with a beta of 0.65 is 35 percent less volatile than the market. Most utility stocks have a beta of less than 1. Most high-end stocks have a beta of more than 1, offering the possibility of a higher rate of return — but posing more risk.