Stocks that Go Higher When the Market Heads Lower
The stock market has been anything but predictable over the past week, with large drops and gains in a single trading day. Volatility is rising and investors are scrambling for solid ground. Safe haven assets are usually one of the first things investors flock to, along with dividend-paying stocks.
But while most stocks tend to be positively correlated with the broader indexes, others are inversely correlated with the markets. When the markets go down, these stocks will actually go up and vice versa. While holding a portfolio of these types of stocks isn’t recommended, having one in the mix when volatility spikes could be a good way of hedging your bets and avoiding huge losses should the markets turn bearish.
It’s all about the beta
One of the most common figures investors look at when picking stocks is the beta. This important piece of data is a measurement of volatility compared to the broader market portfolio. In other words, it tells investors how volatile a stock is compared to an index such as the S&P 500.
Beta is calculated using regression analysis to determine how much the stock swings compared to changes in the broader indexes. More accurately, beta is arrived at by dividing the covariance of the stock’s returns and the benchmark’s returns by the benchmark’s variance over time. But investors really don’t have to worry about coming up with this figure on their own – the beta is easily found on any basic stock screener.
A beta of 1 means that the underlying stock will move in line with the broader index. If the index goes up 1 percent, the stock should go up 1 percent, as well. A beta higher than 1 indicates a greater swing in the stock’s return compared to the market and a beta of less than 1 indicates a lesser swing. By this logic then, a beta with a negative number means the stock will actually perform inversely with the broader index.
Stock’s with a negative beta aren’t terribly uncommon. For investors looking for one, sectors that aren’t cyclical such as pharmaceuticals and utilities usually have at least one stock with a negative beta. Other sectors that may contain a stock with a negative beta are consumer discretionary and even mining industries.
Certain sectors aren’t correlated with the economy or the stock market at all. Pharmaceuticals and biotech companies, for example, perform equally well whether the economy is booming or not because the demand for drug products isn’t correlated with economic strength. But because they aren’t correlated with the markets, investing in one with a negative beta because you want to protect your portfolio against corrections and high volatility might not be the best idea. The stock may behave seemingly randomly, making it difficult to work with as a hedge play.