7.6: Beta
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In addition to serving as a measure of market risk, Beta tells us how a particular stock moves in relation to the rest of the stock market as a whole.
βA=(σA)(corrA,MKT)σMKT
where
βA represents the Beta of Stock A
σA represents the standard deviation of stock A
corr A,MKT represents the correlation between stock A and the overall market σMKT represents the standard deviation of the overall market
Consider the following example. Stock A has a standard deviation of 60% while the overall stock market has a standard deviation of 25%. Assuming that the correlation between Stock A and the overall market is 0.30 , what is the beta of Stock A?
Beta =[(60)(.30)]/(25)=18/25=.72
What is the Market?
The market refers to a portfolio of all investment assets (stocks, bonds, gold , art, etc.). However, in more practical terms, the market usually refers to the stock market and can be measured by a market index (such as the S&P 500 or Dow Jones Industrial Average).