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To be successful in stockmarket, the understanding macroeconomic factors is very important. For a start, we should understand three key cycles that shape the market. The explaination of the three key cycles below is taken from Malaysia Investor
website ( alot of excellent articles there).
Business cycle
A business cycle is essentially a recurring and fluctuating levels of economic activity that is experienced by an economy over a long duration and typically encompasses the following:
- Recovery
- This is where the economy starts to work its way up to better financial footing after the previous recession period
- Expansion
- Here, there would be increasing growth in demand resulting from increased customer confidence
- Peak(also known as the economic boom)
- This is where demand surpasses the supply of goods and services in the market, unemployment is low and almost all the production capacity is fully utilised. During this period, we will see increasing inflation rate, which will later trigger central banks to raise interest rate when an economy is deemed to be overheated.
- Contraction
- With higher interest rate, we will start to see slow down in capital purchases and inventory build up, followed by slow down in production. This subsequently leads to increasing layoff.
- Depending on the severity, during the contraction period, there could be just a slow down in economic activities or a recession, which is generally defined as negative economic growth for more than two consecutive quarters.
- At the trough of this, what is typically observed are businesses restructuring and consumers clearing off debts which they accumulated earlier. After going through a consolidation period, consumers would regain their confidence and start spending. Then, the cycle begins again.
However, very much like us human beings, no two business cycles are exactly the same. Even though all cycles might go through the phases described above, the length and width of the cycles are never the same but generally, the expansion period would be more gradual and longer compare to the contraction period.
Interest rate cycle
This is a cycle that is closely related to the economic activities. A typical interest rate cycle consists of 4 stages:
- A series of rate hikes
- A period of stabilisation
- A series of rate cuts
- A period of stabilisation
Usually, when a country’s inflation rate rises due to demand-pull pressures, its central bank will raise the interest rate to fight off inflation and cool down the economy. Here, the sectors hardest hit would be banking, automotive and housing, as higher interest rates make loans more expensive. As such, consumers would cut down on purchases from these sectors resulting in the earnings of companies in these industries taking a tumble. As the effect starts to take place with the economy slowing down, the interest rate will be held steady for a while up until a stage where by the economy slow down has gone into a more serious recession. This is when central banks react to lower interest rate to boost up its country’s economic activities. After the economy recovery is in sight, the interest rates would once again, be held steady until the next cycle comes.
However, there are certain times when the above does not happen. There are instances where, even though a country’s inflation goes up high, its central bank holds on to its current interest rate as the reason for the rising inflation was more due to cost-push effect, resulting from sharp increase in fuel price for example, rather than demand-pull pressure.
Stock market cycle
A most prominent feature of a stock market cycle is that the stock market cycle moves in tandem with the business cycle, and the former is always ahead of the latter. Why is that so? A very simple reason really - the stock market cycle reflects the overall market expectation on the business performance. Hence, when the market expects an economic boom is coming, before it actually hits, the stock market is already on its way up. The reverse happens before a recession. Therefore, if you trace a stock market cycle, you will see that its peak precedes the actual economic boom while stock market index hits the bottom before our economy goes to its trough. As such, the stock market index functions as an excellent leading indicator for the movements in a particular business cycle.
A typical stock market cycle goes through bull and bear periods. Within the bull period, it can be further classified into early bull, middle bull and late bull before reaching the peak. The same can be seen for the bear period; it consists of early bear, middle bear and late bear before hitting the bottom.
For the full articles, please go this
link.
When you are not a prolific writer, what would you do? Just search around for a good article to be posted.. :)
