One of the great challenges in planning for retirement is planning for risk. All asset classes — yes, even cash — have levels of risk that investors must understand.
As we’ve painfully seen recently, even real estate can drop right off a cliff, and gold and other precious metals are similarly volatile. Bonds, art … you name it, risk is involved.
Which, of course, leads us to stocks. They just might be the most frightening investment of all to everyone who’s trying to build a solid nest egg while keeping risk at bay.
Let’s examine one way to help minimize — not eliminate — some of the risk in your retirement planning, and that’s to understand your stock holdings’ “beta” profile, both individually and collectively.
Beta is a measure of an individual stock’s risk relative to a benchmark index. Simply represented, if a stock has a beta of 1, its risk correlates closely with the benchmark’s, and a price move (volatility) is most likely to be in the same direction and amount as the index. A beta below 1 suggests the stock will move less than the index’s movement, and above 1 means it will be more volatile than the index.
Simple, right? Of course, the truth is a little more complicated. If you want the nuts, bolts and formula, here’s a great place to look — and let me wish you luck with the regression analysis.
The point is, when looking into a stock for your portfolio, make sure to look at the company’s beta to get an idea of the volatility involved. Let’s look at three examples of popular low-beta stocks:
|Johnson & Johnson||JNJ||0.54|
|Source: Google Finance|
Each of these stocks is worth holding in a retirement portfolio for both financial and dividend stability. Just as important is the beta profile for each, which strongly suggests that when markets begin to swing wildly, these guys will be less likely to follow suit. That signifies less risk with these names than, say, Apple (NASDAQ:AAPL), which clocks in with a 1.21 beta. That’s about 21% more risk (volatility) than the market as a whole.
Of course, sticking with an entire portfolio of stocks with betas run under 1 might let you sleep well at night, but it might not get you ahead over the long term. The idea is to balance your portfolio — remember diversification — and you can use beta to accomplish that task, too.
Here are three more widely held stocks, but with higher betas:
|Bank of America||BAC||2.34|
|Source: Google Finance|
These stocks, two with betas well in excess of 1, suggest volatility above and beyond typical market risk.
Looking at each stock’s beta gives you one more piece of information for retirement stock-picking. But looking collectively at beta across them all, you can make a “portfolio” case for investing in all six if you’re also looking to diversify your risk.
In short, make sure when analyzing a stock you include its beta measure to get a sense of its volatility risk. Beta on its own shouldn’t form your full judgement, but it should be one of the factors in prudent planning.
Marc Bastow is an Assistant Editor at InvestorPlace.com. As of this writing he is long MSFT, INTC, JNJ, and INTC.