Question

If holding assets in a diversified portfolio, why is beta, and not standard deviation, the appropriate measure of risk for an individual asset?

Answer 1

Beta is the sysytematic risk which determines weather an investment is more or less volatile than the market. beta cannot be diversified away. beta is the risk that an investor would take by investing in an asset which will give him return whcih are higher than the risk free rate.beta does not measure stand alone risk but it will measure the risk that the investment adds to a already diversified portfolio.

standard deviation is not appropriate as a level of risk in a diversified portfolio because it consists of both systematic risk and the unsystematic risk , where the unsystematic risk is completely diversified away.

The more the different types of security in a portfolio, the less are the chances of using standard deviation as a appropriate meausre of risk. standard deviation meausres the volatility of an individual stock , standard deviation is important when we pkan to invest all our wealth into one stock. beta is more important when we plan to hold a diversified portfolio