Beta (β) measures how much a security's returns move relative to the market. The market (e.g., S&P 500) has a beta of 1.0 by definition.
Interpreting beta:
| Beta | Meaning | |---|---| | β = 1.0 | Moves in line with the market | | β > 1.0 (e.g., 1.5) | More volatile than market; expected to rise/fall 50% more | | β < 1.0 (e.g., 0.6) | Less volatile than market; more defensive | | β = 0 | No correlation with market (e.g., cash) | | β < 0 (e.g., −0.5) | Moves opposite to market (rare; gold, some hedges) |
Example: Beta of 1.3. If market rises 10%, stock expected to rise ~13%. If market falls 10%, stock expected to fall ~13%.
Beta in portfolio context: - Portfolio beta: Weighted average of individual security betas. - Example: 50% in stock A (β=1.2) + 50% in stock B (β=0.8) → Portfolio β = 0.5×1.2 + 0.5×0.8 = 1.0.
Beta and CAPM: Expected return = Risk-free rate + Beta × (Market return − Risk-free rate).
Limitations of beta: - Based on historical data; future beta may differ. - Only measures systematic (market) risk — not total risk. - Less meaningful for companies with short operating histories.
> Exam tip: Beta = systematic risk (market risk that can't be diversified away). Standard deviation measures total risk (systematic + unsystematic). Low beta = defensive; high beta = aggressive. Heavily tested on Series 65/66 and CFP®.