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I wish to clarify the meaning of BETA in stocks. Also I wish to know that whether BETA value should be less than one or greater than one. Which value of BETA is desirable & why?
-Vrajesh Shah
Beta is a statistical term; it measures the volatility of stock (or fund) relative to the market (or the benchmark). The value of beta of a stock or fund is always stated against its benchmark. The beta of benchmark or market is always equal to 1.
If a stock is benchmarked against Sensex and has a beta value greater than 1 (say 1.5), this indicates that the stock is 50 percent more volatile than the market as the beta of Sensex is 1. The stated stock will deliver 15 percent return if the market has delivered a 10 percent return in same time period. Its opposite is also true if Sensex delivers 10 percent negative return, then the stated stock will fall by 15 percent in the same time period. A beta of less than 1 implies lesser volatility.
The desirable value of beta depends upon the individual risk bearing capacity. So while you can expect a high return from a stock that has a beta of 2, you will have to expect it to drop much more when the market falls.
This article was originally published on December 22, 2008.
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