Aswath Damodaran 116
The Relevance of R Squared
You are a diversified investor trying to decide whether you should invest in
Disney or Amgen. They both have betas of 1. 01 , but Disney has an R
Squared of 29 % while Amgen’s R squared of only 14. 5 %. Which one would
you invest in?
a) Amgen, because it has the lower R squared
b) Disney, because it has the higher R squared
c) You would be indifferent
Would your answer be different if you were an undiversified investor?
If you were a diversified investor, you would not care, since you would diversify
away all of the “undiversifiable” risk anyway. If you were undiversified, you
would prefer Disney, which has less firm-specific risk.
