Hi Guys n girls
I have observed that tech stocks exhibited considerably more systematic risk compared to consumer staple stocks (check the link below to see). What is your opinion about the economic reasoning behind this? is this merely a coincidence or there are some solid economic grounds?
https://pasteboard.co/Ikt1pCb.jpg
What model did you use for decomposition?
One reason could be that investors are much more aware of the factors that could go wrong in a consumer staples company compared to tech companies (i.e. labor strikes, asset base, customer behavior, innovation, etc.). The market could believe that this risk is less pronounced in tech stocks that generally have less employees, tangible assets and a sticky customer base that generate recurring revenues (aka subscriptions) or are based on an advertising business model. Now wether the market would be correct in this assessment is of course a different question.
Just a thought: tech is usually a market leader when things go up but is often the first thing sold when markets go down. So a flight to safety may explain the downside, and a risk-on approach when the market rallies?
I regressed stock returns against market returns.
I also have a few questions about risk decomposition, can you please check the link below and give your opinions/share thoughts?
Thanks. Are tech stocks over-weighted compared to other sectors in the overall market? could that be a reason?
I regressed stock returns against market returns.
I also have a few questions about risk decomposition, can you please check the link below and give your opinions/share thoughts?
One of the reason for this is that the Consumer staple stocks are noncyclical because they produce or sell goods that are always in demand, regardless of the state of the economy.
Technology stocks are riskier and that’s why carry higher required rate of return for the investors.
Tech stocks by the name would suggest higher risk. reasoning, there is always new technology. However, consumer staples, yes there are new companies coming up however if some of the bigger companies are hard to beat. for eg: when i say diapers, you would usually think of pampers and huggies. can you name two more companies. probably not. However, if you talk about tech if you talk about let’s say social media, there are tons out there…which get replaced at a fast pace…hope that helps.
Re the issue with equating R2 through the formula in your link to standard deviations;
R2 is the explained variation/total variation, or restated as 1-unexplained variation/total variation. Ok so far.
However,
Unexplained variation is the sum of the squared residuals.
Total variation is the sum of deviations.
Sounds right
Hi, I know that but i mistakenly did not put standard deviation which was supposed to be multiplied by the unexplained variation as % of total variation. Let me rephrase my question.
When regressed on the market returns, the unexplained variation is supposed to be related to unsystematic risk (as beta corresponds to systematic risk), as result, shouldn’t (1-R2)*Stdev be equal to unsystematic risk?
In other words, shouldn’t [STDEVstock-BETA*STDEVmarket) be equal to (1-R2)*STDEVstock? cuz both technically refers to unsystematic risk.
standard deviations are not the same as variations. No? Look again at the formulas for unexplained variation and total variation as they are used in the determination of R2
You might want to double check all your calculations and/or if using external numbers how they were actually calculated. Eg, how your R2 was calculated, annualized STD, etc
Revenschild: clarifying my previous posts:
You should find that your R2 equals Beta2 times Variance of market returns divided by Variance of stock returns. Furthermore subtracting either side of this equation from 1 will give you firm specific risk, expressed as a variance.