Should You Have PowerShares QQQ Trust Series 1's (QQQ) In Your Portfolio?

If you are looking to invest in PowerShares QQQ Trust Series 1’s (NASDAQ:QQQ), or currently own the stock, then you need to understand its beta in order to understand how it can affect the risk of your portfolio. There are two types of risks that affect the market value of a listed company such as QQQ. The first risk to think about is company-specific, which can be diversified away by investing in other companies in order to lower your exposure to one particular stock. The other type of risk, which cannot be diversified away, is market risk. Every stock in the market is exposed to this risk, which arises from macroeconomic factors such as economic growth and geo-political tussles just to name a few.

Not all stocks are expose to the same level of market risk. The most widely used metric to quantify a stock's market risk is beta, and the market as a whole represents a beta of one. Any stock with a beta of greater than one is considered more volatile than the market, and those with a beta less than one is generally less volatile.

What does QQQ's beta value mean?

PowerShares QQQ Trust Series 1 has a beta of 1.11, which means that the percentage change in its stock value will be higher than the entire market in times of booms and busts. A high level of beta means investors face higher risk associated with potential gains and losses driven by market movements. According to this value of beta, QQQ may be a stock for investors with a portfolio mainly made up of low-beta stocks. This is because during times of bullish sentiment, you can reap more of the upside with high-beta stocks compared to muted movements of low-beta holdings.

Does QQQ's size and industry impact the expected beta?

A market capitalisation of $58.97B puts QQQ in the basket of established companies, which is not a guarantee of low relative risk, though they do tend to experience a lower level of relative risk compared to smaller entities. But, QQQ’s industry, capital markets, is considered to be cyclical, which means it is more volatile than the market over the economic cycle. As a result, we should expect a low beta for the large-cap nature of QQQ but a higher beta for the capital markets industry. This is an interesting conclusion, since its size suggests QQQ should be less volatile than it actually is.

Is QQQ's cost structure indicative of a high beta?

During times of economic downturn, low demand may cause companies to readjust production of their goods and services. It is more difficult for companies to lower their cost, if the majority of these costs are generated by fixed assets. Therefore, this is a type of risk which is associated with higher beta. I examine QQQ’s ratio of fixed assets to total assets to see whether the company is highly exposed to the risk of this type of constraint. Considering fixed assets is virtually non-existent in QQQ's operations, it has low dependency on fixed costs to generate revenue. As a result, the company may be less volatile relative to broad market movements, compared to a company of similar size but higher proportion of fixed assets. This outcome contradicts QQQ’s current beta value which indicates an above-average volatility.

What this means for you:

You could benefit from higher returns during times of economic growth. However, in times of a downturn, it may be safe to look at a more defensive stock which can cushion the impact of lower demand. It’s always wise to take into account your portfolio sensitivity to the market before you invest in QQQ, as well as where we are in the current economic cycle. In order to fully understand whether XYZ is a good investment for you, we also need to consider important company-specific fundamentals such as PowerShares QQQ Trust Series 1’s financial health and performance track record. I highly recommend you to complete your research by taking a look at the following:

1. Financial Health: Is QQQ’s operations financially sustainable? Balance sheets can be hard to analyze, which is why we’ve done it for you. Check out our financial health checks here.

2. Past Track Record: Has QQQ 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 QQQ's historicals for more clarity.

3. Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.