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Advanced

CorporateFinance

Assignment

Assessment on whetherstocks have negativebetas, and if they do, dothey sustain

Academic Group 1

Poojan Shah PGP-12-053

Priti Sahay PGP-12-059

Chandan Agarwal PGP-12-102

Swagatam Chakraborty PGP-12-231

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Assessment of Negative Beta

Beta measures a stock's volatility - the degree to which its price fluctuates in relation to the overall

market i.e. measure of the volatility of a security or a portfolio in comparison to the market as a

whole. Beta usually has positive values and regression analysis is used for calculating the exact

value of beta for any stock. There are stocks which do have negative beta and in simple terms it

means that if Stock X has =-0.6 than if market were to decrease by 10%, the stock would increase

by 6% and vice versa.

Mathematical Perspective:

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Since the correlation coefficient is a difference of 2 terms, it can be negative and hence explaining

the mathematical reason behind beta being negative. The same applies to presence of ratio of

standard deviation of stock and market which can be negative when computer mathematically. This

clearly implies an inverse relationship of stock with respect to market.

Investment Perspective:

An investor craves for a portfolio for higher returns minimal risk. Stocks with higher beta are risky

but very volatile and the ones with lower beta are safer and less volatile. Investor is always looking

for a portfolio with optimal presence of high and low beta stocks to ensure higher return and lower

risk. Since the expected returns are derived from CAPM model, stocks with positive beta givereturns higher than the risk-free return depending on the beta value. So in that regard negative beta

for any stock/asset is practically very rare concept as it would mean one would get return less than

the desired risk-free return. Gold is one of the best examples of assets with negative beta as ideally

gold prices go up when markets falls but off late even that has not been true. Negative Beta assets

like gold can be best used as a hedge against higher inflation as inflation spoils the financial

investments on most occasions. The concept of negative beta is also applicable to companies like

bankruptcy advisory services as the bankruptcies go up when market or economy goes down.

Consequence of negative beta would be that expected rate of return would be lower than risk free

rate of return as per CAPM model. But this investment will be more logically understood if it is

looked as an investment which is insurance on the market. These assets/stocks tend to move in theopposite direction of the market, so if the market turns south and most of your portfolio plummets,

these negative beta securities could help mitigate your losses. A negative beta can thus help hedge

ones portfolio during turbulent financial times. The stock is dependent on performance on the

company which is directly or indirectly dependent on macro-economic parameters. But there are

selected firms which dont perform differently even if the market/economy changes it behaviour.

Correlation Coefficient

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And these kind of companies which show negative beta over a period of time. Some of the examples

of negative beta are enlisted an under

Agnico-Eagle Mines (Listed on NYSE, Beta = -0.33)

Agnico-Eagle is a mining company producing gold. Gold and other metal commodity producers

move in opposite direction to the market as gold attracts safe-haven money when stocks start to

decline. Investors aim at using gold miners like Agnico-Eagle to diversify their portfolio exposure

and minimize risk component

Arena Pharmaceuticals (Listed on NASDAQ, Beta = -0.32)

When it first came up anti-obesity drug it took a long time to launch in the market due to FDA

approval. So negative beta in this case did not represent anti-market sentiment but just company-

specific news which affected its beta.

Beta can be negative for a short time die to reasons like possibility of lawsuit against a company or

insider news about a huge order a company might have acquired during poor economic times. Thereasons can also be that company has a specific target segment which always has consistent

demand like education sector, which would mean hardly any impact of performance of education

sector company due to lowering of GDP, inflation etc.

The key to such unusual stocks with negative betas is not to draw generalizations based on beta.

Instead, its better to look at each stock to determine the reason behind negative beta and decide its

fit for the portfolio and investment.