The beta coefficient is a statistical measure that can be used to compare different items.
The idea of using the beta coefficient is common among stock analysts trying to find those stocks that are moving differently to the main market average. This has a number of benefits, not least that stocks with higher beta coefficients offer a greater level of diversification than those with lower beta coefficients.
A stock with a low beta coefficient will be unlikely to outperform the overall market, whereas a stock with a high beta coefficient could move in a completely different direction. Some stocks with a high beta may even move in the opposite direction to the average, allowing them to survive market downturns.
In stocks, this beta can be measured with the following calculation:
Beta (x) = Slope of stock x / Slope of market average
In other words, if a stock increases in value by 14% while the market average increased by only 10%, the stock's beta would be 1.4. Generally, those markets with higher beta's can be said to offer better risk/reward.
Stock markets generally move higher over time, corresponding with economic growth and the act of buy and hold investing.
Conversely, forex markets fluctuate, where the simultaneous buying of one currency reflects the selling of another.
The upshot of this is that there is no point in calculating beta in forex by comparing one market to the slope of the market average.
A much better idea is to construct a market average of currencies, making sure to adjust them for their dollar values, then compare them by standard deviation.
By calculating beta in this way, it is possible to find the currencies that are trading with the highest volatility compared to the rest. In this way:
Beta (EURUSD) = StdDev (EURUSD) / StdDev (market average)
Of course, beta will not stay constant over time, and currencies with a high beta may not continue to be more volatile than the average in the future. This means that high beta currencies may not necessarily be the best ones to trade and it could be the case that the lowest betas might be the best.
Any strategy based on beta will therefore need to be tested to ensure that it works profitably. That is the nature of trading.
The idea of using the beta coefficient is common among stock analysts trying to find those stocks that are moving differently to the main market average. This has a number of benefits, not least that stocks with higher beta coefficients offer a greater level of diversification than those with lower beta coefficients.
A stock with a low beta coefficient will be unlikely to outperform the overall market, whereas a stock with a high beta coefficient could move in a completely different direction. Some stocks with a high beta may even move in the opposite direction to the average, allowing them to survive market downturns.
In stocks, this beta can be measured with the following calculation:
Beta (x) = Slope of stock x / Slope of market average
In other words, if a stock increases in value by 14% while the market average increased by only 10%, the stock's beta would be 1.4. Generally, those markets with higher beta's can be said to offer better risk/reward.
Using beta in forex
While beta is commonly used in stocks, it is rarely used in forex and for a very good reason. Simply, because forex markets are valued against one another, they do not possess any upward bias, like stock markets do.Stock markets generally move higher over time, corresponding with economic growth and the act of buy and hold investing.
Conversely, forex markets fluctuate, where the simultaneous buying of one currency reflects the selling of another.
The upshot of this is that there is no point in calculating beta in forex by comparing one market to the slope of the market average.
A much better idea is to construct a market average of currencies, making sure to adjust them for their dollar values, then compare them by standard deviation.
By calculating beta in this way, it is possible to find the currencies that are trading with the highest volatility compared to the rest. In this way:
Beta (EURUSD) = StdDev (EURUSD) / StdDev (market average)
Results
Calculating beta in this way, shows how currencies relate to each other in terms of volatility. Those currencies with a high beta are the most volatile and these are the best ones to trade since they offer the best risk/reward.Of course, beta will not stay constant over time, and currencies with a high beta may not continue to be more volatile than the average in the future. This means that high beta currencies may not necessarily be the best ones to trade and it could be the case that the lowest betas might be the best.
Any strategy based on beta will therefore need to be tested to ensure that it works profitably. That is the nature of trading.
Editors’ Picks
EUR/USD stays defensive below 1.1750 as USD finds its feet
EUR/USD kicks off the new week on a softer note, holding below 1.1750 in European trading on Monday. The pair faces challenges due to a pause in the US Dollar downtrend, with traders shifting their focus to the delayed US Nonfarm Payrolls and CPI data for fresh directives. The ECB policy decision is also eagerly awaited.
GBP/USD holds steady above 1.3350 as traders await key data and BoE
GBP/USD remains on the back foot above 1.3350 in the European session on Monday, though it lacks bearish conviction and holds above the key 200-day SMA support. The US Dollar holds its recovery mode ahead of key data releases, while the Pound Sterling faces headwinds from the expected BoE rate cut this week.
Japanese Yen adds to strong gains and drags USD/JPY to 155.00 amid hawkish BoJ bets
The Japanese Yen extends its steady intraday ascent through the Asian session on Monday, dragging the USD/JPY pair to the 155.00 psychological mark in the last hour. Against the backdrop of the recent shift in rhetoric from Bank of Japan Governor Kazuo Ueda, an improvement in business confidence reaffirms market bets for an imminent rate hike this week.
Editors’ Picks
EUR/USD stays defensive below 1.1750 as USD finds its feet
EUR/USD kicks off the new week on a softer note, holding below 1.1750 in European trading on Monday. The pair faces challenges due to a pause in the US Dollar downtrend, with traders shifting their focus to the delayed US Nonfarm Payrolls and CPI data for fresh directives. The ECB policy decision is also eagerly awaited.
GBP/USD holds steady above 1.3350 as traders await key data and BoE
GBP/USD remains on the back foot above 1.3350 in the European session on Monday, though it lacks bearish conviction and holds above the key 200-day SMA support. The US Dollar holds its recovery mode ahead of key data releases, while the Pound Sterling faces headwinds from the expected BoE rate cut this week.
Gold climbs to seven-week highs on Fed rate cut bets, safe-haven demand
Gold price rises to seven-week highs to near $4,350 during the early European trading hours on Monday. The precious metal extends its upside amid the prospect of interest rate cuts by the US Fed next year. Lower interest rates could reduce the opportunity cost of holding Gold, supporting the non-yielding precious metal.
Solana consolidates as spot ETF inflows near $1 billion signal institutional dip-buying
Solana price hovers above $131 at the time of writing on Monday, nearing the upper boundary of a falling wedge pattern, awaiting a decisive breakout. On the institutional side, demand for spot Solana Exchange-Traded Funds remained firm, pushing total assets under management to nearly $1 billion since launch.
Big week ends with big doubts
The S&P 500 continued to push higher yesterday as the US 2-year yield wavered around the 3.50% mark following a Federal Reserve (Fed) rate cut earlier this week that was ultimately perceived as not that hawkish after all. The cut is especially boosting the non-tech pockets of the market.
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