Computing Beta, Again

The beta computation saga continues.  I came up with a modified version of the example beta computation method from:

I incorporated a couple modifications (specific to Excel 2010):

  • Install the “Analysis Toolpak” Add-in:
    • File->Options->Add-ins->”Go…”->”Analysis Toolpak”
  • Data->”Data Analysis”->Regression
  • You will have the option of “R Square”.  You will have a couple coefficients, the first (top) is alpha, the second (bottom) is beta.

The “Babson Method” is equally effective.  Take your pick.  Beta and “R square” together are more useful than beta alone. Remember that a low R-square (say <0.5) means that (historic) beta is not particularly useful for explaining the movement of the stock or asset in question.  Moreover either method also supplies a (historic) alpha… a measure of that assets excess return versus the benchmark.

Like any backward-looking analysis, historic alpha, beta, and R-square provide ways to look a that asset’s past.  One hopes that they provide some measure of an asset’s future… this may or may not prove to be the case.

I still see a minor factor that makes either method slightly imperfect…. the lack of accounting for total return.   The basic method don’t account for (re-invested) dividends.  However this is fairly easily remedied by factoring in dividend payments into the asset returns.  It is likely that there are other refinements to be found.

Making Personal Finance Personal

Previously I started blogging about the very different approaches my parents took with respect to money and investing.  In this blog post I continue that discussion with a story of how I became even more passionate about investing.

My parents divorced not long after I started attending college.  Because of the way divorce law works, my Mom received the majority (perhaps two-thirds) of the family assets plus a fairly significant monthly alimony payment.  Over the next ten years Dad rebuilt his financial life, benefiting from the remarkable 90’s bull market and intelligent investing.  Over that same period, Mom’s financial fortunes floundered.  I witnessed both financial journeys as a powerless spectator.

The sad irony is that Dad, the savvy investor, was willing to listen to my investing ideas, whereas Mom stubbornly refused almost all of my investing advice.  I saw Mom make one bad investing decision after another.  She put the house on the market but could not sell it because her asking price was about $100K too high.  She loaned money to business partners without a written contract… money that was never paid back.  Most upsetting to me:  She let her investment adviser, Sam W., manage her IRA, losing money with highly under-diversified utilities stocks and funds in the midst of this tremendous bull market.  The contempt and disappointment I feel towards Sam still lingers with me to this day.  That Mom blindly trusted this man, who likely had little interest in her well-being, and shunned her son’s financial advise left me with stunned disbelief.

I was interested in investing from the time I learned about compound interest at around the age of 9.  I was fascinated by the math of computing compound interest monthly, daily, hourly, continuously.  I was intrigued by the concept of companies, shareholders, stock exchanges, and business.  But it was in watching and living the real-world consequences of my parent’s good and bad investing actions, that my lifelong passion for investing was forged.

These experiences are probably why I am so driven to help people avoid making big financial blunders.  I’ve seen and felt the effects of load funds and self-serving financial advisers.  I’ve seen the impact of poor diversification.  I’ve seen the tears of losing a home, losing a business… due to poor financial choices.

I’m often looking for ways and words to become more persuasive.  I’m looking for ways to help people build interest and confidence in shaping their own financial destinies.  I’m working to develop tools to simply and explain the financial world.  I’m working to create this financial education blog which will someday become part of a personal finance book.

Finance is my passion.  This passion is often hard for people to understand.  Perhaps this blog article will help people understand.  Probably some of my readers share a passion for personal finance and investing.  If you have a similar passion, I hope you will consider sharing your financial stories that shaped your financial lifestyle.

Computing Beta

I will try to use as little math and jargon as possible…

Beta is one way to look at a stock’s behavior relative to the rest of the stock market.  The most common way to compute beta for a stock is to compare its price over a 3 year period versus the S&P 500.  The beta for a stock can be computed with daily, week, monthly or other data.  Generally the difference in the final answer is small between these.  Personally, I favor a beta based on daily closing values, but for this blog post I’ll stick with a monthly beta computation.

Lets compute beta for CSX versus SPY (an S&P500-based index EFT) using Microsoft Excel 2010:

  1. Go to Yahoo Finance and type in ticker symbol CSX.
  2. Click on “Historic Prices” and set the range from Oct 18, 2007 to Oct 18, 2010.  Select the “Monthly” radio button.
  3. Scroll to the bottom of the page and click “Download to Spreadsheet.”
  4. When prompted select “Open With -> Microsoft Excel”.
  5. Cut and paste the data in the “Adj Close” column to a new spreadsheet.
  6. Repeat the above process for SPY.  Put the SPY data in a column adjacent to the adjusted CSX closing price data.
  7. Compute the variance of SPY for example SPY data points e.g. “=VAR.S(C4:C40)”
  8. Compute the covariance of CSX with respect to SPY e.g. “=COVARIANCE.S(B4:B40,C4:C40)”
  9. Beta is, by definition, the value in step 8 divided by the value in step 7.  However I have found this not the case when using the MS Excel 2010 formulas above.  The next steps tell how I “fix” this beta.
  10. Compute average values for CSX and SPY: e.g “=AVERAGE(B4:B40)” and “=AVERAGE(C4:C40)”
  11. The fixed value is the result of step 9 *  the SPY average/the CSX average.  This is CSX’s 3-year, monthly beta.

Using this method, I compute a beta for CSX of 1.00.  This is a fair bit different that the value of 1.24 reported by Yahoo Finance.  I used the same process for MSFT and compute a beta of 0.93 versus Yahoo Finance’s 1.03 for Microsoft stock.  Looking for a more out-there beta, I repeated the process for C (Citigroup). I computed a beta of 4.39 versus Yahoo Finance’s 2.65.   For another comparison Google Finance reports betas for CSX, MSFT, C of 1.2, 1.05, and 2.54.  Finally, MSN Money reports betas of 1.21 ,1.06, and 2.55.

It irks me that 1) these 3 finance sites don’t detail their beta-computation methods, 2) They produce different results, 3) My method produces different results, 4) MS Excel doesn’t [I don’t believe] offer a beta or function, 5) I have to tweak MS Excel data to get a more reasonable beta computation.

Be that as it may, I managed to explain one way of computing beta, and did so with a minimum of math.  Please feel free to flame this post and tell me a better way.  Until then feel free to try my method, or create your own modified method.

P.S. — I did some web searching and found an alternate method that is pretty decent:

They also perform a monthly 3-year beta computation. I like that it is clear, correct, and easy to follow.   I don’t like that it uses an older version of Excel and that it requires graphing and essentially reading the numbers off of the graph.

8 Questions to Ask your Financial Advisor/Manager (or Self)

  1. What is the average weighted expense ratio for all my holdings?
  2. How much, if anything, did I pay in commissions in the last 12 months.
  3. What was my rate of return in the last 12 months? (post all fees and expenses)
  4. How does that compare to the to rate of return in the S&P 500 in the same time period. (inclusive of dividends)
  5. What is the 12-month standard deviation of my investment portfolio? (a measure of risk)
  6. What is my asset allocation between stocks, bonds, and other?
  7. Do any of my holdings have loads?  If so why?
  8. How diversified are my holdings?

Bonus: Please update me on my portfolio’s tax efficiency and tax efficiency strategy.

Feel free to take good notes, and, if you like, send the answers to me.  I’d be glad to give you my personal assessment/opinion.

The Art of the Deal

Perhaps more difficult to embrace than financial planning is the art of negotiation.

Growing up, I saw two very different approaches to personal finance.  Both of my parents were good savers, but that is were any similarity between their approach to finance ended. Dad’s investing style:  calm, disciplined, balanced, thoughtful, intuitive, enthusiastic, and confident.  Mom’s investing style: undisciplined, impulsive, emotional, intellectually-detached, and timid.   Over the years I saw another difference:  Dad’s approach was extremely successful and Mom’s was, well, not.

One quick example.  Dad was buying a new SUV.  He found one he wanted and was negotiating on price.  He was making headway getting a $1000 off then another $1000.  The sticker price was a joke.  They started perhaps $4500 apart and whittled the difference to about $2000. The car salesmen was starting to make pained expressions, but I could tell that they were not genuine.  Dad would walk away and the salesman would chase him down like a puppy, only his tail wouldn’t wag.  Then Mom lost it. She got mad and told Dad to quit beating up the poor salesman.  She said, “Our SUV is shot; we’re stuck here and we need a vehicle today.”  OMG, Dad dutifully took the current salesman’s offer.  I was stunned.  In 30 seconds Mom had managed to turn Dad’s hard-earned position of strength 180 degrees.  I had seen my Dad negotiate before and I wanted to see if he would get the full $2000 or just settle for $1500.  On the way out the door, while Mom was out of earshot, Dad said, “You know, Mom just cost us $1500?”  I nodded yes.  I was still in mild shock, but I knew he was correct.  I was attending a 12-round prize fight and Mohammad Ali’s corner had just threw in the towel — in the 3rd round!

To be continued…. So many stories.   Next story:  Making personal finance personal.

P.S. — Cover your eyes, a tiny bit of math.  Let’s say that in 30 seconds $1500 was lost.  That $3000 in a minute, or $180,000 lost in a hour.  Perhaps an odd way of seeing things, but that’s how my mind works.  And there is a kernel of Gestalt truth to it.

To Make Finance Interesting

I went to a get together tonight with some friends, and talked about all sorts of topics.  The least popular, by people’s reactions, was personal finance.

People, in my experience, find Madoff somewhat interesting.  They sometimes find a bit of Wall Street bashing a bit entertaining.  And they find John Bogle and ETFs plain boring.

My issue is that I find the details of ETFs, markets, exchanges, and bonds fascinating.  I want to get inside of people’s heads to understand just why is finance boring or even vaguely repulsive?  My first thought is that somehow people feel that making money from investments is less morally redeeming than through work.  Another thought is that “respectable people don’t talk about money.”  Perhaps they find finance and all its jargon overwhelming.  Perhaps they have other more important things to focus on than their portfolio.

My mission with this finance blog is to find ways of helping people make better financial decisions.  A secondary goal is to bolster confidence in these financial decisions; to help people sleep easily at night with their financial strategy.  Finally, if possible, I would like to help people see finance through my enthusiastic eyes… as the minor miracle that it is.

The first two goals seem very achievable, while the third seems ever remote.  Really making sound financial decisions, and feeling secure in those decisions is important.  Perhaps, making finance interesting is not so important.  There are a handful of people, like myself, who find finance intrinsically interesting, while the vast majority of people could care less about money, investing, stocks, commodities, ETFs, options, futures…. hey, you in the back, quit snoring… mutual funds, gold, ETNs, annuities, insurance, loans, equities… oh, crap I think I might have dozed off a bit myself.