Stock Volatility Discussion Finance

STOCK VOLATILITY

Investors and their Perception

Market efficiency is a situation where market or security prices accurately represent all information available to participants (Hamilton & Booth, 2007). In an efficient market, all market participants have access to complete and perfect information about security prices such that market prices are unbiased estimates of securities true prices (Hamilton & Booth, 2007). Since everyone has access to the same information about prices, it is impossible for an investor to gain an edge over others by trading financial assets (Hamilton & Booth, 2007).

A serious limitation of the efficient markets hypothesis is it ignores the fact that investors value stocks differently. An investor may evaluate a stock based on its growth potential, while another may look at how it explores undervalued market opportunities. The two investors will not have the same assessment of the stock’s fair value as suggested by the efficient market hypothesis (Hamilton & Booth, 2007). The differences in fair value assessment among investors make it impossible to effectively value a stock under the efficient market hypothesis. Further, history offers multiple cases where stock markets were affected by panic situations that made them irrational and allowed investors to make high profits by buying undervalued stocks during recession and selling them at overvalued prices in seasons of boom. Thus, the assumption of standard security prices is unsupported in the real-life setting.

The beta value is a measure of a stock’s volatility relative to a certain benchmark. Wal-Mart Inc.’s beta value is 0.52, suggesting that the company’s stock is less volatile than the overall market, which is marked with a beta value of 1 (Yahoo Finance, 2022; Ross, 201). The beta value could also be compared with that of other companies in the retail industry. For instance, Wal-Mart’s beta value is lower than that of Costco Wholesale Corporation (0.65) as well as that of Target Inc. (1.00). Thus, Wal-Mart’s stock is historically less volatile than that of other companies in the industry.

Beta, however, has several limitations as a measure of volatility. First, the beta value keeps changing over time (Ross, 2012). For instance, a company may report a high rate of growth in its initial years but the rate may not be sustainable in the long-run and may begin to slow down. In this case, the beta value will be high initially and reduce as the company progresses. Secondly, the calculate beta depends on the data set used (Ross, 2012). Most financial websites may report different beta values for the same stock because they use different data sets to calculate the same. It may be impossible to determine which beta value is most accurate. Thus, the beta value may not be an accurate measure of volatility.