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Banking Essentials - Part I

This pathway will walk us through the basics of banks, starting with some of the different types and their main functions, then starting to look at the regulation faced by the banks, both before and after the Global Financial Crisis.

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Greenwashing is the act of distributing false information about something being more environmentally friendly than it actually is.

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Tackling the Cost of Living Crisis

In this video, Max discusses the cost-of-living crisis currently enveloping the UK. He examines its impact on households as well as the overall economy.

CSR and Sustainability in Financial Services

In the first video of this two-part video series, Elisa introduces us to sustainability. She begins by looking at the difference between sustainability and corporate social responsibility, two terms that can be easily confused.

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What are the Uses of Beta?

What are the Uses of Beta?

Abdulla Javeri

30 years: Financial markets trader

Beta can play a part in stock selection and hedging strategies. In this video, Abdulla explores some applications of beta in the markets.

Beta can play a part in stock selection and hedging strategies. In this video, Abdulla explores some applications of beta in the markets.

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What are the Uses of Beta?

5 mins 2 secs

Overview

Beta is a highly used measure that can explain cyclicality and be used for hedging purposes. Beta is also a crucial component in calculating a company’s cost of capital.

Key learning objectives:

  • Explain the characteristics of high/low beta stocks

  • Describe the practical uses of beta

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Summary

What are the properties of high and low beta stocks?

Cyclical stocks are those with high betas, in other words greater than plus one. They’re expected to outperform when markets rise and underperform when they fall. Low beta stocks, those with a positive beta of less than plus one, are considered to be defensive stocks, which are expected to hold up relatively well when the markets are falling and underperform in rising markets. Counter cyclicals are those with negative betas and move against the market.

What are the uses of beta?

Hedging strategies:

Say for example an investor owns a stock that has risen strongly and now thinks the market will fall. Selling the stock might crystallise an unwanted tax liability. Fund managers might be prevented from selling because of internal constraints on the fund or by regulatory rules. So, rather than selling,  an alternative would be to protect the value of the portfolio, in other words to hedge it. This could be done by buying negative beta stocks or, if allowed to, shorting other positive beta stocks, or possibly by selling index futures. The aim is to neutralise the exposure by achieving a net zero beta. This should protect against adverse movements and maintain the value of the portfolio. Losses to the portfolio should be offset by gains from the hedge, and vice versa.

Equity Valuation:

In the world of equity valuation, discounted cash flow or DCF, is a fundamental technique used in the valuation of companies and therefore their shares. It usually involves discounting free cash flows generated by the company over time by the company’s weighted average cost of capital, WACC for short. The weighted average cost of capital has two components. The cost of debt and the cost of equity. The cost of equity is very often obtained through the capital asset pricing model, or CAPM for short, which in turn uses beta to establish the return investors would expect to receive in order to hold the stock.

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Abdulla Javeri

Abdulla Javeri

Abdulla’s career in the financial markets started in 1990 when he entered the trading floor of the London International Financial Futures Exchange, LIFFE, and qualified as a pit trader in equity and equity index options. In 1996, Abdulla became a trainer for regulatory qualifications and then for non-exam courses, primarily covering all major financial products.

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