FUNDAMENTAL ANALYSIS

- Top Down
- Bottom Up

- TOP DOWN APPROACH

o Believes that it is important to examine the outlook of a company

within the context of what is likely to develop in the economy,
political environment and industry.

- BOTTOM UP APPROACH
o Believes that it is easier to find individual stocks whose prices are
below their intrinsic values than to determine if a market as a whole
is attractively priced.
Company visits
In-house research
External research

FRAMEWORK OF FUNDAMENTAL ANALYSIS:

(1) ECONOMIC ANALYSIS
(2) POLITICAL ANALYSIS
(3) INDUSTRY ANALYSIS
a. Industry Life Cycle
b. Business Cycle Reaction
c. Porters 5 Competitive Forces
(4) COMPANY ANALYSIS
ECONOMY & FINANCIAL MARKETS
- The economy interacts with financial markets
- Prices of securities react to economic policies and forecasts

WHY DO STOCK MARKET LEAD THE BIZ CYCLE???

1. Stock prices react more swiftly to economic policy changes
2. Stock market cycle affects consumer wealth and spending
3. Stock prices reflect the firms future profitability. An anticipated change in
economic activity and profits leads to a current change in stock prices

ECONOMIC ANALYSIS
- Examines the state of the economy and its future performance
- Gather and assess economic information on:
o Interest rate
o Inflation
o Government debt
o Fiscal policy http://www.investopedia.com/articles/04/051904.asp
o Monetary policy, etc.
- Economic Indicators:
o Assist in the decision-making process
o Provide a snapshot of economic situation;
Historic
Current
Future

ECONOMIC INDICATORS
- IMPORATANT THAT INDICATOR IS TIMELY, ACCURATE & RELIABLE
 - Indicators can be very volatile, hence it is useful to compare date with
recent months or smoothen the data by taking moving average over 3, 6
or 12 months

TYPES OF ECONOMIC INDICATORS

(A) Leading Indicator
(B) Coincident Indicator
(C) Lagging Indicator

A Falls ahead of actual changes

- Useful for prediction, (examples; new orders, new housing permits, stock
prices, consumer expectation index)
- Singapore Purchasing Managers Index
B Coincident Indicators
- Coincident Indicators move along with the level of economic activity
- Useful in assessing current state of the economy
- E.g. Industrial production, trade sales
C Lagging Indicators
- Lag changes in economic activity
- They help assess the accuracy of economic statistics or predicted values
- E.g. GDP, Inflation

BUSINESS CYCLE
- The Economy is dynamic. There are ups and downs
- The Biz Cycle / Economic Cycle is used the describe the economic growth
and decline
- Biz cycle is defined by the changes in output, prices and employment

BOOM PHASE:
- Almost everything grows stock prices rise, incomes gains and everyone
is winning
 o High Economic growth
o High industrial production
o High capacity utilisation

CONTRACTION PHASE:
- A contraction is when things slow down
o High or stable Inflation
o Interest rates starts to fall
o Erosion of consumer sentiment
o Consumer spending drops
o Decline in economic growth

RECESSION PHASE:
- Things are at their worst: stocks fall, incomes shrink, biz weakens
o Economic growth stills
o Industrial production falls
o Capacity utilisation declines
o Unit labour cost falls
o Producer price index falls Inflation and interest rate decline

EXPANSION PHASE:
- In an expansion, things move up when the recession ends
o Moderate output growth
o Acceleration of industrial output
o Consumer demand recovering

BUSINESS CYCLES are not all equal, they vary in;

Duration: how long episode lasts
Severity: The size of the drop in production
Speed: How fast each phase may lasts
BUSINESS CYCLES have their own clocks and are hard to predict with political
interventions
Long-term cycles are hard to spot. The economic fluctuations are often measured
using the real gross domestic product.
A normal biz cycle usually lasts approx. 42 54 months
Nowadays biz cycles have become shorter and more volatile

BIZ CYCLE AND STOCK, BOND AND COMMMODITY PRICES

CAUSES OF BIZ CYCLES
Economists believe that there are 5 main causes of the biz cycle
(1) Changes in Capital Expenditure
When the economy is strong, biz have expectations of sales growth and
invest heavily in capital goods.
After a times period, biz may decide to pull back on their capital
investments, causing an eventual recession.
(2) Inventory Adjustments
At first sign of an economy reaching its peak, some biz cut back their
inventories and then build them back up again at the first sign of a trough.
Either action causes the real GDP to fluctuate.
(3) Innovation and imitation
When a biz innovates (e.g. new products etc.), it often gains a competitive
edge against its competitors
To compete, other biz will imitate or come up with something better.
The invest heavily and an investment boom follows. Over time, since
further investments are unnecessary, economic activity may slow
(4) Credit and Loan policies of commercial banks
Easy Money policies encourage borrowings and investments, thus
stimulating the economy.
Eventually, the increased demand for loans causes interest rates to rise,
discouraging new borrowers
 As borrowing and spending slows down, the level of economic activity
declines. The economy keeps declining until interest rates fall and the biz
cycle begins over again.
(5) External shocks
Shocks such as increase in oil prices, wars, and international conflicts have
the potential to drive the economy up or down.

THE BUSINESS CYCLE can be induced by:

(1) NATURAL MARKET FOREXS
(2) GOVERNEMNT INTERVENTIONS
(3) OR BOTH (1) & (2)
Watchers of the bis cycles hope to identify the turning points in the cycles

BIZ CYCLES CAN EITHER BE:

- CYCLICAL
- SECULAR

CYCLICAL VS SECULAR CHANGES

- Cyclical changes are shorter and they tend to repeat (E.g. xmas, new year
shopping)
- Secular changes are gradual, long running changes in the economy (e.g.
Demographic pattern shifts, defence spending, growth of services
industry)