This article explains what controls the price movement of a stock. There are three driving forces: economic growth, industry trends and the company's management. More than half of the share price is determined by external factors, which management has no control of.
When you invest in stocks, it is important to do some analyzing to find the attractive stocks. And let it be said at once: It is not an easy task.
Even the most seasoned analysts and banks are satisfied if in the good times in the stock market they can perform just as well as the general market. This can be ensured by aligning your portfolio to reflect the stock index you want to follow. This could be the Dow Jones index or the MSCI World Index.
The problem of investing on the basis of an index portfolio is that it allows capital losses when stock markets fall. And it does not immediately seem attractive, that investors 'only' lose 15 percent of the invested capital, even though the market in general has fallen 17 percent.
Many professional investors believe it is a good result. Not least mutual funds that think their doing well if their losses are just slightly smaller than the decline in the overall market.
Set a reasonable goal
To others settling for doing as well as the general market is a not very ambitious goal. And ultimately, you do not need an expensive portfolio manager for that, but just a good calculator. If one aims to outperform the general market, you have to work systematically and thoroughly with your investments. And yet, there is no guarantee that you will manage to do better than the market as a whole.
In the following will be described an analysis model for determining the value of a stock. The model is based on the fact that the price of a stock is usually determined by three different drivers. It is difficult to analyze and find the most attractive stocks, if you do not understand these drivers.
If you understand the basic principles you are well prepared and can get very far through tutorials to find the stocks that fit your investment and risk profile.
Macroeconomics control share prices
Firstly, the development of the global economy, where the U.S. economy usually has great influence. Also geopolitical factors such as oil crises, political unrest in major countries or regions and risk of war outbreaks generally affect stock markets, which always react negatively to uncertainty.
Between 20 and 30 percent of a share price is controlled by the macro economy. The large movements up and down in the stock markets are often determined by overall economic conditions and other geopolitical conditions.
In periods of declining global economic growth most equity markets also declines. The activity in the economy falls, and so do corporate sales and profits. Therefore stock prices also go down. And conversely, when economic growth increases, there is usually improvement in global equity markets.
The leading indicators
Roughly speaking, you can say that the development of economic growth can be used to predict the future direction of equity markets. The best tools for reading early changes in the business cycle are the so-called leading indicators. They are made up of economic indicators that respond early to changes in the economic climate.
The most important leading economic indicators include the OECD leading indicator, commodity price index’ and bond yields. Because equity markets may well begin to rise before we see clear signs of a turnaround in economic growth, it is also important to monitor developments in the leading stock markets, ie the U.S. stock market.
If that starts to rise fast, it is perhaps a signal that there is to be a major turnaround. In other words, the stock market may be telling us a 'new history' of economic development. But it may also be a case of short-term fluctuations, which results solely from a change in market sentiment.
It is therefore important to distinguish between the major movements in the stock market and the short-term movements.
Stock prices are ahead of the economy
Normally it is said that stock markets are one of the best leading indicators of economic development. Often we observe a long-term turnaround in the stock market using what is called technical analysis.
Industry Rotation
Secondly conditions in individual industries, such as pharmaceuticals or telecommunications, and geographic regions, such as China or Europe. Also changes in regional or national issues such as tax, interest rates and government regulation can affect local markets. Other 20-30 percent of the share price is driven by industry conditions or regional conditions.
The price performance of the various sectors is often very different. And even though stock prices are falling in one industry, it may well be that the price rises in another industry. Therefore it is very important that you keep in mind the economic sectors you are investing in.
The explanation is that the large professional investors sometimes move their capital from one type of industry to another type of industry. It's called sector rotation. Industries, in which they sell out, fall in price, because there are more sellers than buyers. While industry, in which they buy up, rise in price.
Often the shares within individual industries or less identical, because investors are not trading individual stocks but more so industries. If an industry seems to be facing a significantly higher earnings growth, it is likely that professional investors will throw their love on the largest companies in this industry. This means that large investors' perception solely can move the price level of an entire industry significantly.
Thirdly share prices are influenced by what the company itself does, thus ultimately management skill. Approximately 40-50 percent of the share price is determined by management's ability to run the company.
No comments:
Post a Comment