The beta number refers to the value that measures the volatility of the stock in relation to the volatility of the whole market. A high beta implies that the prices of stock are more sensitive to information compared to low beta (Berk, DeMarzo, Harford, Ford, Mollica & Finch, 2013). Precisely, a high beta means that the investment has a higher risk; however, the situation offers a possibility of higher returns in the case when the stock turns out to be an ideal investment. A beta of one indicates that stocks for investment have the same level of risk as the whole market (Berk, DeMarzo, Harford, Ford, Mollica & Finch, 2013). Conversely, a stock with a beta that is more than one is more volatile compared to the stock with a beta of less than one. For instance, banks, large conglomerates and insurance stocks have a beta that is less than one. This offers them stability; however, they tend to receive lower returns.

With the negative beta, stocks move in the opposite direction of the market. An example of a negative beta is the gold stock. Gold has a more secure store of value compared to currency (Berk, DeMarzo, Harford, Ford, Mollica & Finch, 2013). In a situation of stock market crash, investors will sell their stocks and either switch into cash or buy gold. Therefore, in a falling market, investors with negative better will have hedge because their investments will increase in value. In a rising market, investments in the negative beta lose value. Although negative beta adds value to the portfolio, they have their own risks.

Reference

Berk, J., DeMarzo, P., Harford, J., Ford, G., Mollica, V., & Finch, N. (2013). Fundamentals of corporate finance. Pearson Higher Education AU.

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