Data Intellect

Often an investor will want to determine whether a stock moves in the same direction as the rest of the market, a portfolio, or some combination in between. There are a few reasons why an investor would want to do this but a common one is to gauge how much risk a new stock is adding to a portfolio.

A common technique to help answer these questions is ** Beta analysis**.

This post shows how to use a simple linear regression using *ordinary least squares* to calculate the Betas of the returns of a simple basket of securities compared to an underlying stock.

It assumes a simple working knowledge of the following python data science and simple statistic topics, specifically

*DataFrames, Filters, Joins, Sorting, Collections and Comprehensions, User Defined Functions, Python Resource Managers, Regression Analysis, Dependent and Independent Variables*

Supporting material containing csv files and notebooks for this post can be found in the Beta Analysis folder in this Repo.

It contains 2 notebooks

- One that uses the
**yfinance**package to download market data from yahoo finance - One that performs the regression analysis

An investor has access to a basket of the following securities

- The SP500 (assume a passive ETF tracking this index)
- Futures in Oil, Gas and Gold

They want to know how the daily returns on Halliburton, an American corporation specialising oil field service, moves compared to the constituents of this basket with a **confidence level of 95% or greate**r in their findings.

The technique used here is

- take daily closing prices for each security in question
- calculate the daily return for each security
- perform an ordinary least squared regression to calculate the coefficients (betas) for the independent variables (the basket constituents)

This is a surprisingly easy problem to solve using the **pandas** and **statsmodels** packages and some elementary data science functions.

**Step 1 — Import the appropriate python packages**

```
import pandas as pd
import numpy as np
import matplotlib.pyplot as plt
import seaborn as sns
```

**Step 2 — Import market data**

Import the dependent and independent variables. For convenience these are stored in 2 separate csv files

```
df_HAL = pd.read_csv(filepath_or_buffer='../Data/HAL.csv',
parse_dates=True,
index_col='Date')
df_basket = pd.read_csv(filepath_or_buffer='../Data/basket.csv',
parse_dates=True,
index_col='Date')
```

Concatenate both datasets and display the first 5 rows

```
df = pd.concat(objs = [df_HAL, df_basket], axis = 1)
df.head()
```

Most of the time analysts are more interested in the daily returns of securities and not their actual daily prices. There are a few ways to calculate these, here I am using the convenience method *pct_change()*

```
df = df.pct_change()
df.head()
```

**Step 3 — Perform the regression analysis**

This step uses the ** statsmodels** package to perform an

The **statsmodels** function to solve the above equation is

```
import statsmodels.formula.api as smf
model = smf.ols(formula="HAL ~ SP500 + Oil + Gold + Gas", data=df)
```

And to fit the model

```
result = model.fit()
result.summary()
```

**Step 4— Interpret the results**

The top of the model displays a summary of the regression, the dependent variable, model, method, number of observations etc.

**R-squared **— how much the dependent variable is explained by changes in the independent variable(s). For this example, the model explains 39.4% of changes in the HAL variable.

The middle table shows the coefficients (Betas) for each independent variable and their corresponding p-value

**Coef** — the beta for each independent variable

**P > |t| **— uses the ** t statistic** to produce the p value, a measure of how likely the coefficient happened by chance

To have 95% confidence in the coefficients calculated, choose the values where

1 — P > |t| > 0.95

i.e. the only variables that achieve this level of confidence are **SP500** and **Oil**

Some code samples

```
# display all p-values
result.pvalues
# display all p-values < 0.05
result.pvalues < .05
# display the `features` less than 0.05
is_significant = result.pvalues < .05
result.params[is_significant]
```

A user defined function that performs a regression

```
def regress(ticker, df, p_threshold=0.05):
formula = f'{ticker} ~ SP500 + Oil + Gold + Gas'
fitted = smf.ols(data=df, formula=formula).fit()
is_significant = result.pvalues < p_threshold
return fitted.params[is_significant].rename(ticker)
```

Having performed this for a single stock (HAL), the approach can be adapted to perform the same regression for multiple securities

**Step 1 — Prepare Data**

Import Prices and basket and calculate the percentage changes & join together

```
# Load in the Stock Prices
df_stocks = pd.read_csv(filepath_or_buffer = '../Data/prices.csv',
parse_dates=True,
index_col='Date').pct_change()
# Load in the basket
df_basket = pd.read_csv(filepath_or_buffer='../Data/basket.csv',
parse_dates=True,
index_col='Date')
# Join
df_returns = df_stocks.join(df_basket.pct_change(), how='inner')
```

**Step 2 — Regress for each security in inventory**

For each security, perform the regression and store the significant results in a list. Here I am using a comprehension

`results = [regress(ticker=tick, df=df_returns) for tick in df_returns.columns[:-4]]`

**Step 3 — Store results**

Create a DataFrame to store all results

**Step 4 — Export the result to an excel Spreadsheet**

Here I am using the **with ….** Syntax.

This is known as a resource manager and guarantees that in this case the spreadsheet will be automatically closed, even in the event of exceptional circumstances.

I am also creating a few variations of the betas before outputting to a spreadsheet

- Transposed
- Filtered and Sorted by each independent variable

```
with pd.ExcelWriter('../Output/BasketBetas.xlsx') as writer:
# All Betas
df_all_Betas.to_excel(writer, sheet_name='Betas')
# Transposed
df_all_Betas.transpose().to_excel(writer, sheet_name='Tposed')
# Sorted by SP500 with Nulls filtered out
df_out = df_all_Betas[df_all_Betas['SP500'].notnull()].sort_values(by='SP500', ascending=False)
df_out.to_excel(writer, sheet_name='SP500')
# Sorted by Oil with Nulls filtered out
///
# Sorted by Gold with Nulls filtered out
///
# Sorted by Gas with Nulls filtered out
///
```

This article uses beta analysis as a gentle introduction to the **statsmodels** package and advanced statistical and modelling package that is often used hand in hand with **pandas**, **numpy** and the wider **scipy** suite of packages.

Beta indicates how volatile a stock’s price is in comparison to the overall stock market. A beta greater than 1 indicates a stock’s price swings more wildly (i.e., more volatile) than the overall market. A beta of less than 1 indicates that a stock’s price is less volatile than the overall market.

**The security with the highest SP500 beta – TER**

`df_all_Betas[df_all_Betas['SP500'].notnull()].sort_values(by='SP500', ascending=False).head()`

TER, with a Beta of 2.19, is the most volatile compared to the index and is a sign that if this index returns were to increase by some amount, e.g. 10% then the returns on this would be expected to increase by 21.9% (10% X 2.19), however if the index dropped by 10% then we would expect the return of TER to drop by -21.9%.

**The security with the lowest GOLD beta – DLTR**

`df_all_Betas[df_all_Betas['Gold'].notnull()].sort_values(by='Gold', ascending=True).head()`

DLR has a negative beta against gold, -0.43, a sign that its returns are negatively correlated to those of GOLD. If the return of DLR increased by the same 10% then we would expect the return on GOLD to drop by -4.3% (10% X -0.43), and vice versa. A decrease in the performance of DLR would often see a corresponding increase in the return of GOLD.

A beta higher than 1 is often seen as a risker investment, higher risk but also higher rewards, however it is a double-edged sword with a higher chance of underperforming a market.

Variations on this regression analysis that you might find interesting are:

- Vary the contents of the basket, for example include bonds, other indices, derivatives etc.
- Vary the model, for example, polynomial regression, nearest-neighbours regression
- Construct a cube of results with dimensions: security X model X basket

Finally, there are some more advanced pre-processing steps that can be carried out, for example testing for the existence of ** heteroscedasticity** in the data.

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