A ‘beta’ way to pick your investments

 

There are times you’re happy to accept the temporary ups and downs of your share investments, but at other times, you’re looking for a steadier growth pattern, writes Jenaia Clarke.

With markets reacting to pretty much everything President Trump tweets right now, the market is twitchy, which may worry some investors.

There’s a quick way to check how volatile an asset is. It’s to look at the beta (β or beta co-efficient), which you can see by checking the data on the index, portfolio, or stock exchange:

·         If an asset has a beta of 1, then it moves up and down with the index. It’s quite normal.

·         If an asset has a beta less than 1, then the asset moves less than that of the index and has low volatility.

·         If the beta is higher than 1, it has higher potential for volatility and risk, but it can also have more reward.

The beta is less than 1

Let’s put this into perspective and look at an example of an equity with a beta less than 1.

On 9 April 2018, Steel & Tube Holdings Limited (STU.NZ) was listed on the New Zealand Stock Exchange’s NZX50 index of 50 shares, with a beta of 0.50.

This is less than 1, so it means that Steel & Tube was 50 per cent less volatile than the NZX50.

Hypothetically, if the NZX50 went up 10 per cent, Steel & Tube would likely go up by half, 5 per cent. If the NZX50 declined 4 per cent, Steel & Tube would be expected to decline by half, 2 per cent.

The beta is higher than 1

Another example from the NZX50, Pushpay Holdings Limited (PPH.NZ), had a beta of 2.36 on 9 April 2018.

This means that it was 236 per cent more volatile than the NZX50. For example, if the NZX50 went up 10 per cent, Pushpay Holdings would probably go up 23.6 per cent. And if the index declined 4 per cent, Pushpay Holdings would be expected to go down 9.4 per cent.

What it means

A high beta does not necessarily mean that a share or portfolio is a riskier investment, but it suggests that you’re likely to see more ups and down during periods of high volatility.

In this way, you can use a share’s beta to check that the asset is the right fit for your portfolio and risk profile.

If you do that, the next time President Trump starts tweeting and market volatility starts spiking, you can hope that your diverse portfolio should withstand market volatility.

DEFINITIONS:

Beta: The beta (β or beta coefficient) of an investment shows whether the investment is more or less volatile than the market as a whole. Beta is a measure of how much risk a share is likely to experience from general market movements.

Strike price: The strike price is the price at which the option holder can buy or sell.

First published 12 July, 2018

Story by Jenaia Clarke

JUNO does not contain financial advice as defined by the Financial Advisers Act 2008. Consult a suitably qualified financial adviser before making investment decisions. This story reflects the views of the contributor only. Content comes from sources that JUNO considers accurate, but we do not guarantee that the content is accurate.


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