Z-Score

A Z-score, also known as a standard score, is a statistical measurement that indicates how many standard deviations a data point is from the mean of a dataset. Z-scores are used in various fields, including finance, to assess the probability of a data point occurring within a normal distribution. In finance, the Z-score is commonly applied in the Altman Z-Score model, which predicts the likelihood of a company going bankrupt by comparing its financial ratios to industry averages.

Example

A company with a Z-score of -2 is two standard deviations below the average, indicating a higher risk of financial distress or bankruptcy.

Key points

• Measures how far a data point is from the mean in terms of standard deviations.

• Commonly used in statistics and financial models to assess the risk of bankruptcy or financial distress.

• A Z-score of 0 indicates the value is exactly at the mean, while negative or positive scores indicate deviations.

Quick Answers to Curious Questions

How is the Z-score used in finance?

It helps assess a company's financial health and predict the likelihood of bankruptcy by comparing key financial ratios to industry benchmarks.

What does a negative Z-score indicate?

A negative Z-score indicates that the data point is below the mean, while a positive Z-score indicates it is above the mean.

Why is the Z-score important for assessing risk?

It quantifies how far a particular value is from the average, helping investors or analysts identify outliers and potential risks.