How Do You Calculate Portfolio Beta?
Check the Volatility of Your Investment Portfolio
Perhaps the most important thing to consider when building an investment portfolio is your level of diversification. When you spread your investments across a broad number of companies, industries, sectors, and asset classes, you may be less heavily impacted by one market event.
Diversification can also help reduce the volatility in your portfolios, allowing you to see steady growth without wild swings in the value of your savings. That's when beta becomes important. Beta is a measure of a stock's sensitivity to changes in the overall market. You can measure the beta in your portfolios with some basic math.
How Beta Is Calculated
First, it’s important to understand that beta is measured on a scale comparing the individual investment to a benchmark index like the S&P 500. A beta of “1.0” indicates that its volatility is the same as the benchmark’s, or that it moves in tandem with the benchmark.
In other words, a number higher than “1.0” indicates more volatility than the benchmark, while lower numbers indicate more stability. For example, a stock with a beta of 1.2 is 20% more volatile than the market. And that means if the S&P falls 10%, that stock is expected to fall 12%.
Individual investors can determine the volatility of their portfolios by examining the beta of each holding and performing a relatively simple calculation. The calculation is simply a matter of adding up the beta for each security, and adjusting according to how much of each you own. This is called a weighted average.
While our example below discusses beta in the context of stocks, beta can be calculated for bonds, mutual funds, exchange-traded funds, and other investments.
Steps to Calculate Beta for a Stock Portfolio
The beta for individual stocks is readily available on the websites of most online discount brokerages or reliable publishers of investment research. To determine the beta of an entire portfolio of stocks, you can follow these four steps:
- Add up the value (number of shares x share price) of each stock you own and your entire portfolio.
- Based on these values, determine how much you have of each stock as a percentage of the overall portfolio.
- Multiply those percentage figures by the appropriate beta for each stock. (Thus, if Amazon comprises 25% of your portfolio and has a beta of 1.43, it has a weighted beta of 0.3575.)
- Add up the weighted beta figures.
Let’s illustrate this by calculating the beta on this fictional portfolio of six stocks.
|Stock||Value||Share of Portfolio||Beta||Weighted Beta|
|Procter and Gamble||$18,000||0.18||0.6||0.108|
As you can see, adding up the weighted beta figures in the right column results in a beta of about 1.01, meaning this portfolio has a volatility very much in line with the S&P 500.
How to Calculate Beta for Individual Stocks
Most investors won’t have much occasion to calculate beta for individual stocks, as those figures are readily available. However, there may be times when an investor will find it useful to crunch these numbers themselves.
It’s important to understand that beta can be calculated over various time periods. Stocks can prove to be volatile over the short term but are generally stable over many years. For this reason, an investor may wish to calculate beta themselves to get a more precise answer.
Additionally, an investor may prefer to calculate beta by using a different benchmark. For example, you may believe that a stock with a heavy presence overseas is best judged against an international index instead of the S&P 500.
Calculating beta on your own can also be educational in that it allows you to examine price movements in great detail. Some models for calculating a stock’s beta are very complex, but we’ll use the most straightforward approach here. Follow these basic steps:
- To begin, you’ll likely need a spreadsheet program to assist with calculations. Then you should determine the range of time you intend to measure.
- Using the spreadsheet program, enter the closing share price for your stock on each day of the date range you’ve selected. Then do the same thing for the index you are comparing against. For each date, determine the change in price and the change on a percentage basis.
- Then plug in a formula to determine how the stock and index move together and how the index moves by itself.
- The formula is: (Stock's Daily Change % x Index's Daily % Change) ÷ Index's Daily % Change