®1999 south-western college publishing 1 chapter 20 market and industry analysis

1® 1999 South-Western College Publishing

Chapter 20Market And Industry Analysis


Market Analysis

• 11stst step in top-down analysis step in top-down analysis

• Stock market most important factor in movement of individual Stock market most important factor in movement of individual

stocksstocks

• Macro-economy most important factor related to movements in Macro-economy most important factor related to movements in

the stock marketthe stock market

• Feedback loop between the macro-economy and the stock Feedback loop between the macro-economy and the stock

marketmarket

– Market anticipates but also helps drive what happens in the Market anticipates but also helps drive what happens in the

real economyreal economy


Gross Domestic Product (GDP)

• Most widely used measure of health of overall economyMost widely used measure of health of overall economy

• Quarterly and Annually FiguresQuarterly and Annually Figures

• Value of All Goods and Services w/in a CountryValue of All Goods and Services w/in a Country

• Gross National Produce (Gross National Produce (GNPGNP))

• ComponentsComponents– C+I+G+(X-M)C+I+G+(X-M)

– Based on Keynesian economic theoryBased on Keynesian economic theory

– Structured to avoid “double-counting” of economic activitiesStructured to avoid “double-counting” of economic activities

– Overstates role of consumption as proportion of total economic Overstates role of consumption as proportion of total economic activityactivity


Quarterly And Annual Data

• Advanced EstimatesAdvanced Estimates

– QuarterlyQuarterly

• Preliminary EstimatesPreliminary Estimates

• Revised EstimatesRevised Estimates

• Benchmark RevisionsBenchmark Revisions

– Covers past three yearsCovers past three years


Reporting GDP

Jan. Feb. Mar. Apr. May June July

Quarter 1AdvancedEstimate

PreliminaryEstimate

RevisedEstimate

BenchmarkRevision


Components Of GDP

• ConsumptionConsumption

• InvestmentInvestment

• Government SpendingGovernment Spending

• Net ExportsNet Exports Nominal GDPNominal GDP

• InflationInflation Real GDPReal GDP


Measuring Consumption68%

Components:Components:

• Durable GoodsDurable Goods

• Nondurable goodsNondurable goods

• Services Services

Measures:Measures:

• Car SalesCar Sales

• Retail SalesRetail Sales

• Personal Income/ExpendituresPersonal Income/Expenditures


Measuring Investment13%

Components:Components:• Nonresidential – structures; equipment & software Nonresidential – structures; equipment & software

• ResidentialResidential

• Changes in private inventoriesChanges in private inventories

Measures:Measures:• Housing Starts/Building PermitsHousing Starts/Building Permits

• Durable Goods OrdersDurable Goods Orders

• New Home SalesNew Home Sales

• Construction SpendingConstruction Spending

• Factory Orders/Business InventoriesFactory Orders/Business Inventories


• Measuring Government SpendingMeasuring Government Spending– 18%18%– Incl. Federal (defense; nondefense) and State & Incl. Federal (defense; nondefense) and State &

Local government spendingLocal government spending– Public constructionPublic construction

• Measuring Net ExportsMeasuring Net Exports– -4%-4%– Includes exports vs. imports of goods & servicesIncludes exports vs. imports of goods & services– Merchandise trade balanceMerchandise trade balance

• Measuring InflationMeasuring Inflation– Producer price indexProducer price index– Consumer price indexConsumer price index


Measuring GDP100%

• Purchasing Managers’ IndexPurchasing Managers’ Index

• EmploymentEmployment

• Industrial Production CapacityIndustrial Production Capacity


Business Cycle

• TroughTrough

– Low pointLow point

• PeakPeak

– High pointHigh point

• ExpansionExpansion

– Before a peakBefore a peak

• ContractionContraction

– After a peakAfter a peak

• Movement around long-run trendMovement around long-run trend


Composite Index

• CoincidentCoincident

– Move directly with business cycleMove directly with business cycle

• LeadingLeading

– Lead business cycleLead business cycle

• LaggingLagging

– Lag business cycleLag business cycle


Leading Index ComponentsManufacturing Hours

Vendor Performance

Unemployment Claims

Consumer Expectations

Manufacturers’ New Orders

Money Supply

Orders for Plant And Equipment

Index of Stock Prices

Private Housing Units

Sensitive Materials Prices

Unfilled Orders


Coincident Index Components

• Employees on Nonagricultural PayrollsEmployees on Nonagricultural Payrolls

• Personal Income less Transfer PaymentsPersonal Income less Transfer Payments

• Index of Industrial ProductionIndex of Industrial Production

• Manufacturing and Trade SalesManufacturing and Trade Sales


Lagging Index Components

• Average Duration of UnemploymentAverage Duration of Unemployment• Ratio of Manufacturing and Trade Inventories to Ratio of Manufacturing and Trade Inventories to

SalesSales• Changes in Labor Costs per Unit of OutputChanges in Labor Costs per Unit of Output• Average Prime RateAverage Prime Rate• Commercial and Industrial Loans Commercial and Industrial Loans • Ratio of Installment Credit to Personal IncomeRatio of Installment Credit to Personal Income• Change in Consumer Price Index for ServicesChange in Consumer Price Index for Services


Federal Government and the Macro-economy

• Fiscal Policy Fiscal Policy

– taxation and spending policies of the taxation and spending policies of the government designed to achieve GDP growth, government designed to achieve GDP growth, full employment, and stable pricesfull employment, and stable prices

• Civilian Unemployment RateCivilian Unemployment Rate

– Most heavily monitored statisticMost heavily monitored statistic

• Budget DeficitsBudget Deficits


Federal Reserve Bankand the Macro-economy

• Created in 1913Created in 1913• Monetary PolicyMonetary Policy

– Money supply (M1,M2,M3) vs. interest ratesMoney supply (M1,M2,M3) vs. interest rates– Recession vs. InflationRecession vs. Inflation

• ToolsTools– Open Market OperationsOpen Market Operations– Bank Discount RateBank Discount Rate

• Related to Federal Funds RateRelated to Federal Funds Rate– Bank Reserve RequirementsBank Reserve Requirements


Economy And Financial Markets

• Bond MarketBond Market– Relationship between Yield to Maturity and GDP Relationship between Yield to Maturity and GDP

depends on relative impact of:depends on relative impact of:• Inflation vs. Inflation vs. • Risk of defaultRisk of default

• Stock MarketStock Market– Leading indicator of trends in real Leading indicator of trends in real GDPGDP

• Forward-lookingForward-looking• Also, impacted by monetary policy before rest of Also, impacted by monetary policy before rest of

economyeconomy• Also affects rest of economy directly Also affects rest of economy directly


Valuing The Overall Stock Market

• Traditional measures for comparing valuesTraditional measures for comparing values• Book ValueBook Value

– Ratio of stock’s price to book value (M/BV)Ratio of stock’s price to book value (M/BV)

• DividendsDividends– Dividend yield = annual div. / current priceDividend yield = annual div. / current price

• EarningsEarnings– P/E ratioP/E ratio– E/P ratio = “earnings yield”E/P ratio = “earnings yield”


Valuing The Overall Stock Market

• Compare measures to:Compare measures to:• Other values / yields throughout economyOther values / yields throughout economy

– Bond yields vs. stock yieldsBond yields vs. stock yields

• Historical valuesHistorical values• But “context-dependent”But “context-dependent”

– AttitudesAttitudes– Fiscal and economic environmentFiscal and economic environment– Composition of market / indexComposition of market / index– All change over time All change over time – Cause relative values to changeCause relative values to change


Industry Analysis• The second step in the three-step fundamental The second step in the three-step fundamental

analysis procedureanalysis procedure• The first step is the macroanalysis of the stock The first step is the macroanalysis of the stock

marketmarket• The last step is to analyze individual companies The last step is to analyze individual companies

and stocks in light of the market and industry and stocks in light of the market and industry forecastsforecasts


Links Between the Economyand Industry Sectors

• Identify and monitor key assumptions and Identify and monitor key assumptions and variablesvariables

• Economic trends are eitherEconomic trends are either– Cyclical - up and down with business cycleCyclical - up and down with business cycle– Structural - major changeStructural - major change

• Combined changes have implications for the Combined changes have implications for the industry being analyzedindustry being analyzed

• Switching from one industry group to another over Switching from one industry group to another over the course of a business cycle is known as a the course of a business cycle is known as a rotation strategyrotation strategy


The Stock Market and the Business Cycle



trough

peak



Financial Stocks Excel

trough

peakConsumer Durables

Excel

Capital Goods Excel

Basic Industries

Excel

Consumer Staples Excel


Cyclical Economic Factors

• InflationInflation

• Interest ratesInterest rates

• International economicsInternational economics

• Consumer sentimentConsumer sentiment


Structural Economic Changes and Alternative Industries

• Social InfluencesSocial Influences– DemographicsDemographics– LifestylesLifestyles

• TechnologyTechnology• Politics and regulationsPolitics and regulations

– Economic reasoningEconomic reasoning– FairnessFairness– Regulatory changes affect numerous industriesRegulatory changes affect numerous industries– Regulations affect international commerceRegulations affect international commerce


Theme Investing

• Based on identifying emerging trends, such as:Based on identifying emerging trends, such as:

– TechnologyTechnology

– Aging populationAging population

– Freer trade and developing-country Freer trade and developing-country growthgrowth

• Identification of themes provides insight into Identification of themes provides insight into industry analysisindustry analysis


Valuing The Overall Industry

• Similar to valuing overall stock marketSimilar to valuing overall stock market• Look at:Look at:• Book ValueBook Value

– Value relative to industry’s total book valueValue relative to industry’s total book value

• DividendsDividends– Compute dividend yield for the industryCompute dividend yield for the industry

• EarningsEarnings– P/E ratioP/E ratio– E/P ratioE/P ratio– Compare to industry’s total earningsCompare to industry’s total earnings


The Earnings Multiple Technique• Estimating earnings per shareEstimating earnings per share

– start with forecasting sales per sharestart with forecasting sales per share• Industrial life cycleIndustrial life cycle• Input-output analysisInput-output analysis• Industry-aggregate economy relationshipIndustry-aggregate economy relationship

– earnings forecasting and analysis of industry earnings forecasting and analysis of industry competitioncompetition• competitive strategycompetitive strategy• competitive environmentcompetitive environment• industry operating profit marginindustry operating profit margin• industry earnings estimateindustry earnings estimate• industry earnings multiplierindustry earnings multiplier


Industry Life Cycle

• Pioneering developmentPioneering development• Rapidly accelerating industry Rapidly accelerating industry

growthgrowth• Mature industry growthMature industry growth• Stabilization and market maturityStabilization and market maturity• Deceleration of growth and declineDeceleration of growth and decline


Input-Output Analysis

• Identify suppliers and customersIdentify suppliers and customers

• Future demand from customersFuture demand from customers

• Ability of suppliers to provide goods Ability of suppliers to provide goods and services requiredand services required

• Extended to global industries, include Extended to global industries, include worldwide suppliers and customersworldwide suppliers and customers


The Industry-Economy Relationship

• Compare industry sales to aggregate Compare industry sales to aggregate economic series related to the goods economic series related to the goods and services provided by the industryand services provided by the industry


Competitive Structure of an Industry

• Determines what average EPS levels will beDetermines what average EPS levels will be• Porter’s Competitive ForcesPorter’s Competitive Forces

– Rivalry among existing competitorsRivalry among existing competitors– Threat of new entrantsThreat of new entrants– Threat of substitute productsThreat of substitute products– Bargaining power of buyersBargaining power of buyers– Bargaining power of suppliersBargaining power of suppliers

®1999 south-western college publishing 1 chapter 20 market and industry analysis

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