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Importance of beta for stock market technical analysis

Overview

There are two separate domains that are used for assessment and analysis in the stock market. These two are the fundamental and technical analysis. The stock market technical analysis is concerned with the two main components.

  • Costs variation analysis
  • Future predictions regarding the price upward or downward movement

There are many tools that have designed to facilitate stock market technical analysis for traders and investors. Beta is one such tool that holds its distinctive position. Beta is basically an assessment tool that is effectively used to evaluate the stock market activities. It helps the traders to evaluate all risks involved as well as the price fluctuations.

What is Beta in Stock Market?

Before we see how beta is helpful and why is it important for stock market technical analysis, it is first important to understand what is beta. A beta is an assessment tool which is actively used in the stock market. Beta is basically a numeric value. It is used to assess the everyday activities and the variations of the stock market.

How to calculate Beta of Stock?

Beta is numeric value which is used to measure and asses the volatility of assets in stock market. It also evaluates the overall activity of the stock market. For calculating the Beta, the variance, co-variance and return of stocks must be known.

Beta can be calcuated by the following formula :

Here Cov and Var are covariance and variance operators respectively

Purpose of Beta in the stock market

A beta is an essential tool for the stock market technical analysis. It plays a vital role to assess and evaluate the overall price variations in the market which makes predicting the future possibilities of the stock market easier. The Beta creates a pattern which helps the traders to have an in-depth insight into the market. This provides an opportunity to better evaluate all risks of the stocks and assets and additionally makes decision making easier whether or not they should invest in the stock market.

Beta and the CAPM

Beta is used in the Capital asset price model. The CAPM is a model which is very helpful in the stock market technical analysis. The purpose of this model is to assess the return of stocks. Beta in this perspective helps in assessing the

  • Systematic Risks
  • Volatility of Stock assets

Value of Beta and stock market interpretations

Beta Value 1

If the value of Beta is at 1, it means investing in the market is a smart move for the investors. This is because it indicates that if the market goes up, the stocks will also rise simultaneously.

Beta Value between 0 and 1

When the value of beta is between 0 and 1, this indicates towards the fact of the market being less volatile which means less risk.

Beta Value > 1

When the beta value is higher than 1 it means that the volatility of the stock market is high which in turn means that the risk is high as well.

Beta Value > 0

This the phase of the stock market called the ‘decaying stocks’ because this is when all assets and stocks move swiftly in the downward directions.

Key points to understand Beta action in the stock market

There are a few key points that will help better understand the beta action and its importance in the stock market.

  • There is a general misconception that in a stock market technical analysis, a low beta value will mean low volatility. That is not the case, however. A Low beta generally indicates towards the stock market being at a considerable lower risk of loss.
  • It is vital to understand that beta is a numeric value that is calculated according to the estimates made regarding the existing activates of the stock market.
  • Beta is a great help for predicting the volatility of the market, which is very important.

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About Emaad Qureshi