Comparative Analysis of Risk and Return

This article is written with the purpose of exploring risk and return for prominent blue chip stocks using risk measures such as variance and standard deviation.

In this article I will investigate the risk measures of 5 prominent stocks within the New York Stock Exchange (NYSE). I will be calculating the risk measures in respect to the NASDAQ index. Risk measures are extremely important for both retail and institutional investors since they provide insight into the volatility and potential returns of a stock.

This analysis will focus on 5 stocks: Amazon (AMZN), Apple (AAPL), Google (GOOGL), Microsoft (MSFT), and Tesla (TSLA). These companies are leading figures in their industries and each have unique risk and return profiles. In this article we will talk about the variance, standard deviation, beta, and alpha of these stocks so we can understand their performances and volatility in comparison to the market.

1. How to calculate risk measures

Variance: the variance of a stock is a measure of how much a stock’s return varies with respect to its daily returns.

Standard deviation: the standard deviation of a stock is a measure of the volatility in the same units as returns.

Beta: The Beta measures the stock’s volatility relative to the market. A beta greater than 1 indicates higher volatility than the market, while a beta less than 1 indicates lower volatility.

Alpha: The Alpha is a measure of the excess return of the stock relative to the expected return based on its beta. It indicates the stock’s performance above or below the market.

2. Value of the risk measures for each stock

(rounded to 3 significant figures)

Spreadsheet with calculation and data

3. Analysis

Variance and standard deviation: TSLA has the highest variance and standard deviation indicating, a higher variance in stocks mean that the stocks returns can vary widely over time. A higher variance is usually associated with higher volatility and larger swings in its price.

• Risk: The variance of a stock can be associated with risk levels, higher variance stocks indicate comparatively higher risk compared to lower variance stocks as they have less volatility. Investors in these stocks are more likely to experience large, unexpected losses.
• Return: Higher variance stocks typically offer higher returns compared to lower variance stocks as higher risk is associated with higher returns

The stock with the lowest variance was AAPL which indicates that out of the 5 stocks we analysed the stock prices for AAPL vary through a comparatively smaller range around the mean (avergae) returns. This means AAPL has a lower volatility.

• Risk: Lower variance stocks have a comparatively lower risk, as their returns are more stable and less likely to experience massive price swings.
• Return: Lower variance stocks typically offer lower returns compared to higher variance stocks which aligns with the principle of lower risk means lower returns

Beta: TSLA has the highest Beta out of all 5 stocks, a Beta value of 0.322 means the stock is expected to move 0.322 times more than the market. If the market were to go up by 1% then TSLA stock would be expected to rise 0.322% and if the market were to go down by 1%, the stock might go down by 0.322%.

• Risk assessment: Higher beta stocks can be a good addition to the investors seeking higher returns and willing to accept more risk as higher beta values are associated with more volatility.
• Sensitivity to the market: Stocks with higher Beta values are more sensitive to the movement of the market.

AAPL has the lowest Beta value of 0.173, this indicates that AAPL is less volatile than all 4 of the other stocks and the market as well, this also means it is less sensitive to market movement.

• Risk Assessment: Lower beta stocks like AAPL are good additions for investors that are not looking for risky stocks as they are less volatile
• Sensitivity to the market: A lower Beta value is associated with less sensitivity to the market.

Alpha: TSLA is the only stock with a positive Alpha value meaning it is the only stock that has had greater returns than expected based on its Beta (volatility relative to the market) and the overall market return. An Alpha value of 8.32% indicates that it has generated 8.32% more overall returns than expected based on its level of risk.

• Risk adjusted returns: An Alpha of 8.32 also indicated that the stock has had favourable risk adjusted returns. This means that the investment has justified the risk taken by the investor by delivering a high amount of returns

Conversely, GOOGL has the lowest Alpha value indicating that it has generated 15.32% less overall returns than expected.

• Risk adjusted returns: An Alpha of -15.32% means the stock has not performed well enough to justify the level of risk initially taken by the investor

4. Conclusion

Overall, this analysis focuses on the risk and return characteristics of the five stocks. Investors can use these risk measures to find their ideal investment based on their risk tolerance and return expectations. High variance and high beta stocks like TSLA offer the potential for higher returns but come with greater risk, while low variance and low beta stocks like AAPL provide stability and lower risk. Understanding these risk measures is can greatly elevate your investments and overall balance in your portfolio.