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Why do different firms in same industry have very different betas?

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lscrivy | Student, Undergraduate | Salutatorian

Posted March 21, 2012 at 4:10 PM via web

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Why do different firms in same industry have very different betas?

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justaguide | College Teacher | (Level 2) Distinguished Educator

Posted March 21, 2012 at 11:05 PM (Answer #1)

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The beta of a stock describes how the returns of the stock are correlated to the returns of the financial market as a whole. The value representing the returns of the financial market is that of the returns offered by a benchmark index. For example, in the US, the benchmark indexes that are used to determine the beta of stocks are the DJIA, the NASDAQ or the S&P 500 among many others.

All firms that are in the same industry do not have the same beta as the financial fundamentals of each firm is different. This could include the assets of the firm, the debt it has, the profits it is currently making and is expected to make in the future, the current price of the stock, the liquidity of the stock, etc. 

In most instances when the beta of two firms in the same industry are being compared it is seen that firms that are more leveraged and have a lower price have a higher beta. The beta of firms that are generally not included in long term investor portfolios but instead are traded by short term speculators or traders have a higher beta. The beta of firms where the price of the stocks is very low and which are traded in large volumes, commonly known as penny stocks have a large beta compared to other more stable firms in the same industry.

There can be many reasons why the beta of firms in the same industry are not the same and it is quite difficult to provide an exact reason as they usually vary for different industries and between different firms.

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