What is the Difference Between Levered and Unlevered Beta?

The difference between levered and unlevered beta lies in the way they measure the risk of a company. Beta is a measure of market risk, specifically the sensitivity of a security's returns to the volatility of the market. Here is a breakdown of the two types of beta:

Levered Beta (Equity Beta): This is the beta of a firm inclusive of the effects of the capital structure, which includes debt and equity. It measures the risk of a firm with debt and equity in its capital structure to the volatility of the market. A levered beta greater than positive 1 or less than negative 1 means that it has greater volatility, while a levered beta between negative 1 and positive 1 has less volatility than the market.
Unlevered Beta (Asset Beta): This is the volatility of returns for a business, without considering its financial leverage. It only takes into account its assets and represents the core business risk, excluding the effects of the company's financing decisions.

The relationship between levered and unlevered beta is important for investors and analysts when assessing a company's risk profile. Comparing a company's levered beta to its industry average or to the market's beta can provide valuable insights into the company's risk relative to other investments.

Unlevered beta is typically lower than levered beta due to the tax advantages of debt, which can lower the overall risk profile of a company. When comparing companies' unlevered betas, it gives an investor clarity on the composition of risk being considered, allowing them to make informed investment decisions.