Principles of Investing FIN 330 Chapter 5 Economic Activity

STUDENT LEARNING OBJECTIVES A.Importance of Top-Down Analyses B.Gauging the impact of Fiscal and Monetary Policy C.Importance of the Business Cycle, Cyclical Indicators D.Components of Industry Analysis

Top-Down Analysis A.Economic Analysis: Macro- environment affecting performance and value B.Industry Analysis: Nature of Competition, Regulatory impact, Life cycle C.Company Analysis: Operating performance, Management, R&D strength

Gauging impact of Fiscal and Monetary Policy A.Federal Reserve Objectives 1.Stable prices (fighting inflation) 2.Support economic growth 3.Support full employment B.Impact of Monetary Policy ( see Figure 5- 5 ) 1.Supply of credit (bank reserve requirements) 2.Cost of credit (interest rates)

Gauging impact of Fiscal and Monetary Policy C. Impact of Fiscal Policy: taxes (domestic & foreign) 1.Deficit spending: expand public demand to spur output of capital goods 2.Output of capital goods expands employment and income 3.Expanding employment and income should expand demand for consumer goods, etc

Business Cycles and Cyclical Indicators A.Business cycle (see Table 5-2) 1.Recurrent sequences of expansions and contractions around long term economic growth 2.Stock prices may lead business cycles 3.Inflation inversely affects stock prices 4.Industries vary in business cycle response

Business Cycles and Cyclical Indicators B. Economic Indicators (see Table 5-4) 1.Leading (10) : Stock prices, average hours, unemployment claims, new orders 2.Coincident (4): Non-agri employees, personal income, industrial production, sales 3.Lagging (7): duration of unemployment, Mfr. inventory to sales ratios, CPI for services

Business Cycles and Cyclical Indicators C. Business Cycles and Interest Rates 1.Interest rate behavior related to business cycles 2.Yield spread: difference in yield between two securities 3.typically widens prior to downturns 4.typically narrows prior to upturns 5.What happens depends on risk perceptions

Stock Prices and Economic Variables A.Impact of changes in the money supply 1.Monetarist View: if Ms > Md, then people will buy financial assets (liquidity effect) 2.Indirect Effects of Ms > Md; increase consumption, increase sales → profits → dividends B.GDP, Stock Prices, and Corporate profits are positively correlated (See Figure 5- 10)

Homework A.Discussion Questions: 3, 4, 5 B.What is the beige Book? How is it useful in our analysis?