Is Positive Beta Better than Negative Beta?, response (500 words)

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Original
Question:

Is Positive Beta Better than Negative Beta?

A Beta factor represents risk in a financial
instrument or commodity. Explain the reasons for changes in beta and explain if
one should be more concerned with a negative versus positive factor. Be sure to
reference volatility. Please provide an example of negative Beta.

Student
Number #1 Response:

Beta is the measure of volatility or systematic risk
of a security as compared to the whole market (Bates, Kidwell, Parrino, 2015).
It is often used to calculate expected returns and beta that is less than 1 is
less likely to be volatile while a beta over 1 will be more volatile than the
market. An investor should be concerned with negative and positive factors of
securities because this will determine how someone chooses to invest. A stock
with a positive beta that is greater than one may be more volatile with higher
risk but also offer higher returns, examples would be something like tech
stocks as opposed to utilities stocks which usually have a beta of less than
one and offer more stability but a lower rate of return.

A good example of negative beta would be bonds in a
portfolio which has the characteristics of negative beta because it usually
moves opposite of the market (Caplinger, 2012). By having bonds which provide
negative beta in a portfolio like a 401k it kind of offers some protection
against positive beta which because of their volatility can make and lose a lot
of value. The bonds with negative beta can act as a counter balance insuring
that even though there will not be a high return rate there will also not be
huge losses.

References:

Bates, T. Kidwell, D. Parrino, R. (2015). Fundamentals
of Corporate Finance. 3rd Edition. Retrieved 04/27/2016

Caplinger, D. (2012). Negative beta stocks: Worth
buying? Retrieved 04/27/2016 from

http://www.fool.com/investing/beginning/2012/12/12/negative-beta-stocks-worth-buying.aspx

Student
Number #2 Response:

Anyone who plays the stocks has a firm understanding
of beta. One can look at the beta of a stock to get a better understanding of
how the stock reacts to the market. According to investopedia.com, “Beta
is calculated using regression analysis, and you can think of beta as the
tendency of a security’s returns to respond to swings in the market. A beta of
1 indicates that the security’s price will move with the market. A beta of less
than 1 means that the security will be less volatile than the market. A beta of
greater than 1 indicates that the security’s price will be more volatile than
the market. For example, if a stock’s beta is 1.2, it’s theoretically 20% more
volatile than the market” (2015).

While a beta factor represents a risk, there is such a thing as a negative
beta. According to blogspot.com, “By that definition, any investment that
when added to a portfolio, makes the overall risk of the portfolio go down, has
a negative beta. A more intuitive way of thinking about this is that a negative
beta investment represents insurance against some macro economic risk that
affects the rest of your portfolio adversely. A standard example that is
offered for a negative beta investment is gold, which acts as a hedge against
higher inflation (which devastates financial investments such as stocks and
bonds). It is also true that puts on stocks and selling forward contracts
against indices will have negative betas” (2009). When there is a negative
beta, this means that the overall rate on return of the investment has been
reduced. In the example of gold, the rate of return on the investment of gold
is typically low, thus, making it a potentially poor investment.

Reference:
http://www.investopedia.com/terms/b/beta.asp

http://aswathdamodaran.blogspot.com/2009/02/can-betas-be-negative-and-other-well.html

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