Whether you’re just beginning to invest or want to brush up on your knowledge of stock market fundamentals, mastering stock metrics such as Beta and EPS is critical. These can assist you assess both the potential risks and potential rewards of investing in particular stocks, as well as offer useful signals of a company’s financial state.
By the time you’re finished with this guide, you should be able to derive your own views on what Beta and EPS are, how they are employed, and why they are crucial when deciding on investments.
What Is Beta With Regards to the Stock Market?
Beta reflects a stock’s volatility against the rest of the market. In simple terms, it helps you figure out how much a stock’s price generally moves in relation to market moves.
How Does Beta Work?
Beta as a value instead of a number. Here’s a breakdown of what each number means:
- Beta = 1: The stock is running parallel to the market. If the market goes up or down 2 percent, the stock is likely to rise or to fall by as much.
- Beta > 1: The stock price is more turbulent than the market 1. For example, a beta of 1.5 means a stock is 50 percent more volatile than the market. If the market is up 2 percent, the stock might be up 3 percent.
- Beta < 1: Stock is less volatile than the market. For instance, a stock with a beta of 0.7 moves 30 percent less than the market.
For most, beta is a test of whether a stock is more or less risky. High-beta stocks may offer higher returns, but more risk, while low-beta stocks may be less risky but offer slower growth.
Real-World Example of Beta
Pretend you are analyzing a tech company that has a beta of 1.8. It’s a sign that the stock is extremely volatile and that its price is apt to be yanked up and down wildly by the vagaries of the marketplace. In contrast, a utility company’s stock with a beta of 0.5 would be expected to be half as volatile as the broader market, and therefore less volatile during times of market turmoil.
Pros and Cons of Beta
Pros:
- Simple and straightforward to read and interpret.
- Helpful when comparing stocks in the same industry.
- Aids in portfolio diversification by overweighing stocks with high betas and underweighing low-beta stocks.
Cons:
- Beta only calculates historical volatility, which can be an unreliable predictor.
- Does not consider company-specific developments, like new management or new strategies.
What Does EPS Mean in Stocks Terminology?
EPS, which stands for earnings per share, is a figure that indicates how much profit a company makes for each outstanding share of its stock. It is a measure of profitability and a frequently applied valuation metric for a stock.
How Is EPS Calculated?
The formula for EPS is:
EPS = (Net Income – Preferred Dividends) ÷ Average Shares Outstanding
Here’s what each term means:
- Net Income is the company’s total amount of Profit, after all costs are deducted.
- Preferred Stock features Dividends on Preferred Stock – Dividends on Preferred Stock are the payments paid out to preferred shareholders before calculating the EPS.
- Average Outstanding Shares – is the average number of shares that are held by the company over the course of the period.
Types of EPS
There are two primary forms of EPS:
- Basic EPS: This is calculated simply as described above.
- Diluted EPS: That factor in the potential dilution from securities (e.g., stock options, convertible bonds) that would further increase the total shares outstanding.
Why Is EPS Important?
EPS is an important measure when the company’s profitability is considered. The greater the EPS, the more profit a company is making on a per-share basis, and the more attractive it is for potential investors.
Real-World Example of EPS
For example, let’s say a business earns $5 million in net income, pays $500,000 in dividends to preferred shareholders, and has 2 million shares in open circulation. The EPS would be:
($5,000,000 – $500,000) ÷ 2,000,000 = $2.25 / share
If EPS is $2.25, then for every share that you own in the company, they made $2.25 in profit.
Pros and Cons of EPS
Pros:
- Comparisons between firms in the same industry can gauge profit more readily.
- Provides insight into a company’s financial health and growth potential.
- Also very useful for calculating valuation multiples, like P/E.
Cons:
- Also susceptible to financial reconfiguration for some schemes.
- Does not consider other factors like cash flow and sales growth.
Comparing Beta and EPS
Beta and EPS are two of the most commonly used but very different tools in analyzing stocks:
- Beta measures volatility and risk, and can help you determine a stock’s sensitivity to market movement.
- EPS is a representation of profitability, telling investors how much money a company makes in profit per share.
If you’re trying to decide between the two, you might also consider other information, such as P/E ratios, dividends, and sector trends.
How to Use Beta and Earnings Per Share Together in Stock Analysis
Evaluate Risk with Beta
If you’re a timid investor who’s not ready to get back in, seek out low-beta stocks that promise stability. Investors who want to chase high returns and accept the rough-and-tumble, meanwhile, might find high-beta stocks more attractive.
Assess Profitability with EPS
Find out if the company has consistent numbers for EPS across periods. This is an indication of high profitability and may be a sign of financial soundness.
Combine Context
A stock with a high EPS and high beta may indicate strong growth potential and risk. At the same time, a low-beta stock with stable EPS might be the right pick for conservative investors seeking consistent returns.
Final Thoughts and Investment Recommendation
Here are two of the simplest investment terms to use as an investor we’re talking about Beta and EPS. If Beta gives you a measure of how a stock moves and volatility, EPS gives you a measure of how profitable a stock is. Taken collectively, they offer a broad view of a company’s performance.
But, of course, remember — these numbers only tell part of the story. Don’t overlook macro factors such as market trends, the condition of the industry, and other macroeconomic factors when you make your investment fundamentals.
Ready to get started with stock research? Calculate Beta, EPS, and other free tools on the web. From the choices that you make, they will influence the fate with money.
