Prof. Jayanth R. Varma's Financial Markets Blog

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Prof. Jayanth R. Varma's Financial Markets Blog, A Blog on Financial Markets and Their Regulation

© Prof. Jayanth R. Varma
jrvarma@iima.ac.in

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Sun, 23 Aug 2020

Negative beta stocks: The case of Zoom

One of the questions that comes up every time I teach the Capital Asset Pricing Model (CAPM) in a basic finance course is whether there are any negative beta stocks, and if so what would be their expected return. My standard answer has been that negative beta stocks are a theoretical possibility but possibly non existent in practice. Every time I have found a negative beta in practice, there was either a data error or the sample size was too small for the negative beta to be statistically significant. I would also often joke that a bankruptcy law firm would possibly have a negative beta, but fortunately or unfortunately, such firms are typically not listed. (The answer to the second part of the question is easier, if the beta is negative, the expected return is less than the risk free because it hedges the risk of the risk of the portfolio and one is willing to pay for this hedging benefit).

But now there is an interesting real life case of a negative beta stock: Zoom Video Communications, Inc. Not only is this a large company by market capitalization, but it is also a familiar company with so many online classes taking place on Zoom. During the Covid-19 pandemic, a plausible argument has been going round why Zoom should have a negative beta. The argument is that if the pandemic rages, the economy collapses while Zoom soars, and if the pandemic retreats, the economy recovers, and people go back to face to face meetings, and the Zoom boom is over.

Interestingly, the data supports this nice theory:

A better example of beta changing dramatically (going from around two to negative and then back to around two) within a few months without any change in the business mix of the company would be hard to find.

Negative betas may be a once in a 100-year event (the last global pandemic of comparable severity was in 1918), but the Zoom example illustrates the importance of estimating betas more carefully using shrinkage estimators and Bayesian methods as I explained in detail in a blog post ten years ago.

Posted at 17:37 on Sun, 23 Aug 2020     View/Post Comments (1)     permanent link