Beta

Beta calculates the past relationship for stock’s returns compared to the Index. Above 1 indicates a stock price has moved more than the Index, less than 1 historically lower price movements.

The Beta of a stock is the measure of the historical movements of the stock price compared to the Index of which it is a constituent. A stock’s Beta can be calculated based on anywhere from a 36 to 60-month regression analysis of the stock’s returns against the Index. If a stock’s Beta is 1 then over the regression period, its returns have been the same as for the Index. However, this does not mean the returns were always identical. A High Beta stock will have a Beta over 1, for example 1.25. A Low Beta stock less than 1, for example 0.83.

Beta Formula
Beta = Covariance (Rs, Rm) / Variance (Rm)
Rm = average expected rate of return on the market
Rs = expected return on Stock S

The interpretation of the Beta Formula is this. If the Index goes up by 100 points from 5,500 to 5,600, then a stock with a starting price of $46.50 and a Beta of 1.25 should go to $47.55. An increase of 2.3%. The stock’s Beta of 1.25 indicated that the price movement of the stock should be 25%, greater than the increase of the Index, which was 1.8%. If a stock has a Beta lower than 1, for example 0.95, as the Index increases 1.8%, the stock’s price movement should go up but less than the market. In the previous example the end price should be $47.23, a 1.71% increase.