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An investor will have to identify key economic variables in order to make a fundamental analysis for investing in stocks and shares:
GROWTH RATE OF NATIONAL INCOME AND OTHER MACROECONOMIC INDICATORS:
Gross National Product (GNP) denotes the measures of total economic output in a country. Net National Product (NNP) refers to the total income of a country. The rate of growth of these macroeconomic indicators is available on an annual basis. The estimates of growth rate of an economy will serve as a tool to decide the prospects for the industrial sector. Therefore, the returns that can be expected if one invests in shares can be calculated.
INFLATION: An estimate of the GNP and NNP will show the 'nominal' growth rate of a country. The 'real' growth rate can be estimated by discounting the 'nominal' growth rate of the country with the rate of inflation. Inflation is measured in terms of Wholesale Price Indicators (WPI) as well as Consumer Price Indicators (CPI). A high rate of Inflation will hamper the growth of a economy. A moderate rate of inflation, on the other hand can help the economy by providing a stimulus to produce more while not creating imbalances in demand and supply in an economy.
Firms need to make both monthly and yearly estimates of inflation. This will help them in establishing the projected costs and revenue and in making decisions regarding pricing and distribution of their product.
GROWTH RATE OF THE PRODUCTION SECTOR: Growth rate of the industrial sector are made on estimated demand for goods and commodities. Estimates can be made even on a monthly basis and aggregate demand for each of the industries can be estimates also. Similarly, the expected market share of each industry and firm can be drawn. This indicator can signify whether it will be profitable to invest in the industry or firm.
INTEREST RATES: Short term interest rates include rate for the call money market and the rate at which banks lend to each other. Long term interest rates include rates on government loans and corporate bonds. A lower interest rate implies that the cost of finance is lower. Therefore, the rate of expected return on stocks will decrease. A higher interest rate implies that the expected return on stocks will increase.
FOREIGN TRADE: Measures that go to affect the foreign exchange reserves and exchange rate of a country include:
a) An excess of exports to imports in an economy that leads to a surplus situation in the balance of payment situation and vice-versa
b) Foreign exchange earned by 'invisible' transactions like hospitality and tourism. These are included in the current account.
c) Loans received and repaid: Loans made and repaid are included as capital transactions.
Exchange rates are published in financial dailies. An increase in the foreign exchange rate can improve the performance of industries that engage in import and export transactions. Hence, the returns on these shares will be greater.
Other important factors that affect the performance of industries and their stocks and shares include, the Governments spending and encouraging of targeted industries, the saving and investment pattern of individual firms and industries and demographic data that sets demand for commodities and services. Favorable weather conditions can also enable grow of the industries and economy.
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