Common Stock Beta - Additional Details
There are very few stocks that move consistently against the market, because the market values the same thing in most stocks, profitability, growth, cash flows and book values. One idea is that certain companies do better when the market falls, like pawn shops, thrift stores, moving and storage companies, and subprime lenders. Negative BETA stocks are an anomaly, like a Giffen good. That's why they say: "A Rising Tide Lifts All Boats."
We identify negative beta stocks. They may be a portfolio hedge, or they may have an counter-cyclical stock price trajectory.
They may be companies that have their own business cycles independent of the market, like an oil or drug company that strikes it rich (e.g., new discovery) during a stock market decline. They also may be a company in decline during a stock market rally.
The beta of a stock is a measurement of how much a stock moves with another security, and whether the move is amplified.
A few examples of beta:
- A beta of one is the baseline (a stock has a beta of 1.00 with itself).
- A short position in a stock has a beta of minus one (-1.00).
- A 3x leverage fund of the S&P 500 would have a beta of approximately 3.00 or -3.00 (e.g., TNA).
- Gold currently has a beta of 0.2 (so it moves with the market, but only 1/5 the daily movement).
- US Treasury bonds and notes have a beta range of 0.01 to 0.15, which means that bonds and stocks are moving together, but bonds move less than stocks each day.
- New economy stocks (e.g., digital economy and smaller emerging technology firms) dominate the top beta stocks in our model (beta of 2.5 to 3.85).
A stock with a high beta exaggerates and amplifies the movements of stock index. These are more risky and act as a leveraged 'bet' on the overall stock market. One point strikes us: stocks can build up a high beta value during a dramatic advance or decline, then maintain the higher beta for weeks or months. A stock can rise and fall with the market, but then change its behavior while maintaining its beta value.
A stock with a low BETA moves very little relative to the overall market, and in some cases moves independently to the exchange. As an example, packaged foods companies have low BETA values because consumer tastes change independently to stock market forces. They move with changes in food consumption in America (see BLOG Post here), and their movements have less to do with stock market rallies or macroeconomic trends. Stocks with low BETA tend to be seen as safe.
When the overall US equities market moves, high BETA stocks move more and low BETA stocks move less, all other conditions being equal.
There is a wide distribution of BETA values. The top 50 have a BETA value of 2.50 or higher, while the bottom 50 have a BETA value of 0.33 or lower. This trend continues. It is like stocks are now maintaining their correlations in a very calm market with lower price variances.
A stock with a BETA of 1.0 means the covariance of the stock with the index equals the variance of the index, or that their historic variability matches. It matches in both direction and size. The historical variability of a stock is the same as the historical variability of the stock market, as measured by the index chosen. Looking to tomorrow, if the SPY advances 0.50%, then the stock is likely to also advance 0.5%, when measured over enough days.
BETA > 1.0 or high beta
A stock with a BETA greater than 1.0 implies the stock has greater momentum or systematic risk than the stock market. These stocks are more economically sensitive than the overall market. A stock with a high BETA, which we define as a BETA > 2.8, has significantly more momentum and volatility than the overall market. High BETA stocks are like leverage in your investment portfolio. They move aggressively. We track an index of stocks with BETA >/= 2.80 over the past year and they are very risky. Their range of daily price moves are consistently impressive.
BETA < 1.0 or low beta
A stock with a BETA less than 1.0 has less momentum or systematic risk than the stock market. It is less risky to hold in a portfolio and tends to dampen risk. These are often defensive stocks like regulated utilities or food companies. They are less economically sensitive than the overall market.
BETA = 0 or independent
A stock with a BETA of zero moves independently, or without a consistent relationship, to the underlying index. For example, TVC, which is a stock ticker that buys you a 25 dollar bond issued by the Tennessee Valley Authority, likely has a BETA near zero. Another is an ETF of a short-term bond fund, SHY. Another is a physical gold ETF, AAAU. These tickers move with interest rates, the health of the issuers, or demand for a non-economic commodity.
A stock with negative BETA show two different behaviors. They show higher variance when the market is calm (or vice versa). They also move in the opposite direction of the stock market. The covariance of the stock to the market is negative.
You can see some synthetic investments (ETFs) with negative BETA in the list above. These ETFs move consistently, but not always, in the opposite direction of the stock market, or SPY. A stock with a negative BETA typically, but not always, falls when the market rises, and vice versa. One example is a set of ETFs that track the VIX, VIXY and UVXY, and others are ETFs that are short the market, or TZA and SQQQ. They have a negative BETA by design.
Common stocks with negative BETA stocks are rare. Out of 3,440 common stocks that traded on July 11, 2022 and passed data validation, we found 5 negative BETA stocks. Almost all stocks move with the market, hence the expression "a rising tide lifts all boats." Some weeks we have seen only one or two stocks with negative BETA.
Negative BETA may be caused by anomalous trading activity (e.g., MEME stocks or short squeezes), significant business performance against a business cycle (e.g., company loses money during an economic recovery), a counter-cyclical stock that moves against the market (e.g., discount retailers), or a defensive stock (e.g., insurance or foods) that has suffered poor performance.
Why is it unlikely? Because the same factors that lift up a company's future profits also lift the profits of most companies in the stock market. Hence the phrase, "a rising tide lifts all boats." Earlier this year, we saw MEME trade erratically and somewhat randomly, which could give them a negative BETA. Over the pandemic period, very unsuccessful companies would decline despite market advances, also giving them a negative BETA.
Negative BETA stocks moved in the opposite direction of the index. A stock with a negative BETA fell when the index rose, and rose when the index fell. It is rare to see a negative BETA stock. Out of 3,440 stocks that traded on July 11, 2022 and passed data validation, we found 5 negative BETA stocks. Almost all stocks move with the market, hence the expression "a rising tide lifts all boats."
Negative BETA stocks are an anomaly. Negative BETA may be caused by anomalous trading activity (e.g., MEME stocks), significant business performance against a business cycle (e.g., company loses money during an economic recovery), or a counter-cyclical stock that moves against the market (e.g., discount retailers). It may be caused by a stock in a long-term price decline, or one which fell aggressively (e.g., a biotech firm that failed a drug trial).
There are non-stock tickers that have significant negative BETA. We call this synthetic BETA because a money manager creates an investment that 'should' move against the market, or against an index, as long as markets, liquidity and price discovery are functioning properly. Example are shown below.
In the past we saw commodities and currencies consistently move against US equities (e.g., US Dollar & Gold).
It is not always easy to find the right index to calculate BETA. You need clean and complete data (every day). We faced this issue the first time we analyzed the Turkish stock market for a potential Turkish client. We had to use a US-listed iShares ETF (TUR) and lost almost half our tickers during data validation to negative BETA.