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How Does First Merchants Corporation (NASDAQ:FRME) Affect Your Portfolio Volatility?

Simply Wall St

Anyone researching First Merchants Corporation (NASDAQ:FRME) might want to consider the historical volatility of the share price. Modern finance theory considers volatility to be a measure of risk, and there are two main types of price volatility. The first type is company specific volatility. Investors use diversification across uncorrelated stocks to reduce this kind of price volatility across the portfolio. The second sort is caused by the natural volatility of markets, overall. For example, certain macroeconomic events will impact (virtually) all stocks on the market.

Some stocks see their prices move in concert with the market. Others tend towards stronger, gentler or unrelated price movements. Beta can be a useful tool to understand how much a stock is influenced by market risk (volatility). However, Warren Buffett said 'volatility is far from synonymous with risk' in his 2014 letter to investors. So, while useful, beta is not the only metric to consider. To use beta as an investor, you must first understand that the overall market has a beta of one. Any stock with a beta of greater than one is considered more volatile than the market, while those with a beta below one are either less volatile or poorly correlated with the market.

Check out our latest analysis for First Merchants

What FRME's beta value tells investors

Given that it has a beta of 1.09, we can surmise that the First Merchants share price has been fairly sensitive to market volatility (over the last 5 years). If this beta value holds true in the future, First Merchants shares are likely to rise more than the market when the market is going up, but fall faster when the market is going down. Many would argue that beta is useful in position sizing, but fundamental metrics such as revenue and earnings are more important overall. You can see First Merchants's revenue and earnings in the image below.

NasdaqGS:FRME Income Statement, January 27th 2020

Does FRME's size influence the expected beta?

First Merchants is a reasonably big company, with a market capitalisation of US$2.2b. Most companies this size are actively traded with decent volumes of shares changing hands each day. It has a relatively high beta, suggesting it may be somehow leveraged to macroeconomic conditions. For example, it might be a high growth stock with lots of investors trading the shares. It's notable when large companies to have high beta values, because it usually takes substantial capital flows to move their share prices.

What this means for you:

Beta only tells us that the First Merchants share price is sensitive to broader market movements. This could indicate that it is a high growth company, or is heavily influenced by sentiment because it is speculative. Alternatively, it could have operating leverage in its business model. Ultimately, beta is an interesting metric, but there's plenty more to learn. This article aims to educate investors about beta values, but it's well worth looking at important company-specific fundamentals such as First Merchants’s financial health and performance track record. I urge you to continue your research by taking a look at the following:

  1. Future Outlook: What are well-informed industry analysts predicting for FRME’s future growth? Take a look at our free research report of analyst consensus for FRME’s outlook.
  2. Past Track Record: Has FRME been consistently performing well irrespective of the ups and downs in the market? Go into more detail in the past performance analysis and take a look at the free visual representations of FRME's historicals for more clarity.
  3. Other Interesting Stocks: It's worth checking to see how FRME measures up against other companies on valuation. You could start with this free list of prospective options.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Thank you for reading.