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O. Young Kwon
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O. Young Kwon, NYU Ph.D. in Economics had worked in securities industry for ten years as a Registered Investment Adviser. He taught Macroeconomics and Statistics. Prior to his academic career, he was an Economist/Bank Supervisor at the Bank of Korea (the Fed's counterpart). In 2009 he set up the... More
  • The Perplexity of a Low Beta : The Case of Netflix 0 comments
    Jan 22, 2011 5:09 AM
    In general, short-term traders follow volatile stocks. Option traders and short sellers, in particular, are more sensitive to the volatility of ETFs and equities because of their relatively short period of investing. Relatively longer-term investors also pay due attention on any historical price patterns of stocks.
     
    Betas for most securities are available so that we use them as a proxy of the expected volatility. The beta (0.48) of Netflix (NFLX), however, is puzzled. The betas of nine securities – SPY (SPDR S&P as a proxy of the market), AMZN (Amazon.com), BIDU (Baidu.com), NFLX, IBM (International Business Machines), CMG (Chipotle Mexican Grill), KFT (Kraft Foods), MCD (McDonald’s), and YUM (Yum Brands) are:
     
    Security
    SPY
    AMZN
    BIDU
    IBM
    NFLX
    CMG
    KFT
    MCD
    YUM
    BETA
    1.00
    1.18
    1.72
    1.24
    0.48
    1.02
    0.58
    0.52
    1.01
     
    The questions are why NFLX has a low beta, which is less than one third of the BIDU‘s beta, and lower than MCD’s, and why the betas of technology stocks (except BIDU).are not much higher than food stocks,
     
    The beta (a) measures the volatility of a security relative to the market volatility, and (b) incorporates the correlation of returns between the security and the market. To get some empirical evidence, stock prices of nine securities (9/2/2010 to 1/14/2011) are used.
     
    First, to measure the volatility of securities, standard deviations are calculated, and were standardized, as shown in the following table. (Note: STDEV is standard deviation. MEAN is average. S/M is comparable)  
     
    Security
    SPY
    AMZN
    BIDU
    IBM
    NFLX
    CMG
    KFT
    MCD
    YUM
    STDEV(S)
    5.10
    13.65
    8.08
    6.39
    16.69
    29.44
    0.56
    1.89
    1.99
    MEAN(M)
    119.69
    166.76
    101.90
    140.95
    170.14
    208.45
    31.22
    76.78
    48.65
    S/M
    0.043
    0.082
    0.079
    0.045
    0.098
    0.141
    0.018
    0.025
    0.041
     
    CMG (0.141) is most volatile, following by NFLX (0.098), AMZN (0.082), and BIDU (0.079), as we expected. IBM (0.045) and YUM (0.041) are moderate. MCD (0.025) and KFT (0.018) are least volatile.
     
     
    Second, to capture the correlation components, the correlation coefficients and daily percentage changes are computed. Following two tables are the results (9/2/2010 – 1/14/2011).
       
    Security
    SPY
    AMZN
    BIDU
    IBM
    NFLX
    CMG
    KFT
    MCD
    YUM
    SPY
    1.00
    0.95
    0.59
    0.93
    0.79
    0.77
    0.18
    0.19
    0.73
    AMZN
    0.95
    1.00
    0.66
    0.91
    0.88
    0.82
    0.17
    0.25
    0.74
    BIDU
    0.59
    0.66
    1.00
    0.79
    0.72
    0.73
    0.02
    0.61
    0.85
    IBM
    0.93
    0.91
    0.79
    1.00
    0.80
    0.84
    0.10
    0.42
    0.88
    NFLX
    0.79
    0.88
    0.72
    0.80
    1.00
    0.90
    (0.10)
    0.40
    0.74
    CMG
    0.77
    0.82
    0.73
    0.84
    0.90
    1.00
    (0.22)
    0.60
    0.87
    KFT
    0.18
    0.17
    0.02
    0.10
    (0.10)
    0.40
    1.00
    (0.24)
    0.00
    MCD
    0.19
    0.25
    0.61
    0.42
    0.40
    0.74
    (0.24)
    1.00
    0.74
    YUM
    0.73
    0.74
    0.85
    0.88
    0.74
    0.00
    0.00
    0.74
    1.00
     
    Read the SPY line. AMZN (0.95) and IBM (0.93) are most correlated with the market, following by NFLX (0.79), CMG (0.77), YUM (0.73), and BIDU (0.59). KFT (0.18) and MCD (0.19) are least correlated. The technology stocks are more correlated than food stocks.
     
    The correlations among securities : (a) Top 4 – AMZN & IBM (0.91), NFLX & CMG (0.90), AMZN & NFLX (0.88), and NFLX & IBM (0.80). (b) No correlation – YUM & CMG (0.00) and YUM and KFT (0.00). (c) negative correlations – NFLX & KFT (-0.10), CMG & KFT (-0.22), and MCD & KFT (-0.24).
     
    Implications:
     
    (a)    The stock market is now in the second stage of a bull market. In the early stage, ETF trading was dominated, resulting that the correlations with the market tend to be higher. When a bull market has matured, individual security selections become more popular. As a result, the correlations either with the market or among securities become weaker.
     
    (b)   High flyers (NFLX, CMG, and BIDU) made, quite often, huge intraday swings last year. Therefore, the correlations calculated with the closing prices are not accurate for them.
     
     
     

     
                      The Scores of the Against-the-Market Run (12/13/2010 – 1/14/2011)
     
    SPY
    AMZN
    BIDU
    IBM
    NFLX
    CMG
    KFT
    MCD
    YUM
    12/13/2010
    0.1%
    -0.8%
    0.4%
    -0.4%
    -5.7%
    -5.2%
    0.4%
    -0.6%
    -1.6%
    12/14/2010
    0.1%
    -0.2%
    -1.6%
    1.1%
    -3.0%
    0.8%
    1.6%
    0.0%
    0.0%
    12/15/2010
    -0.5%
    0.9%
    -6.2%
    -0.8%
    0.0%
    -0.5%
    0.3%
    -0.2%
    -0.6%
    12/15/2010
    0.6%
    1.4%
    -2.0%
    -0.3%
    1.7%
    3.5%
    0.5%
    -0.4%
    1.8%
    12/17/2010
    -0.4%
    -0.3%
    0.4%
    0.4%
    -0.9%
    1.4%
    0.9%
    0.1%
    0.1%
    12/20/2010
    0.2%
    3.2%
    0.1%
    -0.3%
    -1.1%
    -0.8%
    -0.6%
    0.1%
    -0.9%
    12/21/2010
    0.6%
    0.8%
    2.5%
    0.8%
    4.5%
    -0.7%
    0.3%
    -0.6%
    0.8%
    12/22/2010
    0.3%
    0.0%
    -0.7%
    0.1%
    -0.5%
    -1.1%
    0.1%
    0.7%
    0.1%
    12/23/2010
    -0.1%
    -1.2%
    1.6%
    0.0%
    -0.4%
    -1.5%
    0.0%
    -0.1%
    -0.9%
    12/27/2010
    0.0%
    0.3%
    -2.0%
    -0.4%
    -2.5%
    -2.5%
    -0.9%
    -0.7%
    -0.3%
    12/28/2010
    0.1%
    -1.1%
    -1.4%
    0.3%
    2.0%
    -1.2%
    0.8%
    0.0%
    -0.6%
    12/29/2010
    0.1%
    1.3%
    0.4%
    0.6%
    -1.9%
    0.5%
    -0.9%
    0.7%
    0.7%
    12/30/2010
    -0.2%
    -0.3%
    -0.9%
    0.1%
    -0.3%
    -1.5%
    -0.2%
    -0.3%
    -0.6%
    12/31/2011
    0.0%
    -1.5%
    -1.7%
    0.1%
    -2.3%
    -2.3%
    0.0%
    0.0%
    -0.5%
    1/3/2011
    1.0%
    2.3%
    3.3%
    0.5%
    1.5%
    5.0%
    0.5%
    -0.2%
    0.1%
    1/4/2011
    -0.1%
    0.4%
    1.2%
    0.1%
    1.6%
    -0.6%
    -0.2%
    -3.0%
    -1.5%
    1/5/2011
    0.5%
    1.3%
    3.6%
    -0.4%
    -0.9%
    -0.6%
    -0.2%
    0.5%
    0.5%
    1/6/2011
    -0.2%
    -0.8%
    0.5%
    1.1%
    -1.0%
    2.5%
    -0.8%
    -0.6%
    0.7%
    1/7/2011
    -0.2%
    -0.2%
    1.7%
    -0.5%
    0.7%
    -1.0%
    -0.3%
    0.1%
    1.2%
    1/10/2011
    -0.1%
    -0.4%
    -0.9%
    -0.2%
    4.7%
    -0.3%
    0.1%
    -1.0%
    0.1%
    1/11/2011
    0.4%
    -0.2%
    0.3%
    -0.2%
    -0.7%
    -1.3%
    0.3%
    0.5%
    -0.6%
    1/12/2011
    0.9%
    -0.1%
    -0.3%
    1.2%
    1.2%
    -1.4%
    0.7%
    -0.4%
    -0.2%
    1/13/2011
    -0.2%
    0.8%
    0.3%
    -0.6%
    1.4%
    5.4%
    -0.2%
    -1.3%
    -0.5%
    1/14/2011
    0.7%
    1.7%
    1.4%
    1.2%
    0.0%
    2.3%
    -0.3%
    1.9%
    -2.2%
    Scores
    N/A
    8
    9
    8
    10
    11
    7
    7
    7
     
    This table shows on what day eight securities move to the opposite direction of the market (SPY) and how many times during Dec 13, 2010 to Jan. 14, 2011. The finding is that all stocks are showing a similar pattern, ranging 7 to 11 times. The trend, however, differs. AMZN, NFLX, CMG, and YUM become more often recently while IBM, KFT, and MCD become less frequent.
     
    Can we solve the puzzle of the low beta of NFLX, compared with BIDU? The answer is not conclusive.
     
    The correlation coefficient is directly and the standard deviation is indirectly related to the numerator (covariance) of beta. The denominator of beta is variance of returns of the market. The following table is a summary of the relationship between NFLX and BIDE, and the relationship between MCD and CMG.

     
                 Security
    SPY
    NFLX
    BIDU
    MCD
    CMG
    beta
    1.00
    0.48
    1.72
    0.52
    1.02
    correlation coefficient
    1.00
    0.79
    0.59
    0.19
    0.77
    standard deviation (S)
    5.10
    16.69
    6.39
    1.89
    29.44
    Average (M)
    119.69
    170.14
    140.95
    76.78
    208.45
    S/M
    0.043
    0.098
    0.045
    0.025
    0.141
     
    The betas of MCD (0.52) and CMG (1.02) can be roughly justified by their correlation coefficients (0.19 and 0.77.77)
    0.77) and the figures of S/M (0.025 and 0.141). The betas of NFLX and BIDU (0.48 and 1.72) can not be explained by their correlation coefficients (0.79 and 0.59) and the figures of S/M (0.098 and 0.045).
     
    Obviously the beta (0.48) of Netflix understates the volatility or risk of the security. I cannot explain why precisely. One plausible answer is the closing price effect, meaning that the intraday swings are not captured.
     
     
     
     
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