1. McGraw-Hill/Irwin © 2007 The McGraw-Hill Companies, Inc., All Rights Reserved. Macroeconomic and Industry Analysis CHAPTER 11

2. 11-2 Fundamental Analysis Approach to Fundamental Analysis –Domestic and global economic analysis –Industry analysis –Company analysis Why use the top-down approach Framework of Analysis

3. 11-3 Global Economic Considerations Performance in countries and regions is highly variable Political risk Exchange rate risk –Sales –Profits –Stock returns

4. 11-4 Figure 11.1 Change in Real Exchange Rate: Dollar Versus Major Currencies. 1999-2003

5. 11-5 Key Economic Variables Gross domestic product Unemployment rates Interest rates & inflation Budget Deficits Consumer sentiment

6. 11-6 Figure 11.2 S&P 500 Versus EPS Estimate

7. 11-7 Figure 11.3 Determination of the Equilibrium Real Rate of Interest

8. 11-8 Federal Government Policy Fiscal Policy - government spending and taxing actions –Direct policy –Slowly implemented

9. 11-9 Federal Government Policy (cont.) Monetary Policy - manipulation of the money supply to influence economic activity –Initial & feedback effects Tools of monetary policy –Open market operations( federal funds rate) –Discount rate –Reserve requirements

10. 11-10 Demand Shocks Demand shock - an event that affects demand for goods and services in the economy –Tax rate cut –Increases in government spending

11. 11-11 Supply shock - an event that influences production capacity or production costs –Commodity price changes –Educational level of economic participants Supply Shocks

12. 11-12 Business Cycles Business Cycle –Peak –Trough Industry relationship to business cycles –Cyclical –Defensive

13. 11-13 Leading Indicators - tend to rise and fall in advance of the economy Leading Indicators - tend to rise and fall in advance of the economyExamples –Avg. weekly hours of production workers –Stock Prices –Initial claims for unemployment –Manufacturer’s new orders NBER Cyclical Indicators: Leading

14. 11-14 Coincident Indicators - indicators that tend to change directly with the economy Coincident Indicators - indicators that tend to change directly with the economyExamples –Industrial production –Manufacturing and trade sales NBER Cyclical Indicators: Coincident

15. 11-15 Lagging Indicators - indicators that tend to follow the lag economic performance Lagging Indicators - indicators that tend to follow the lag economic performanceExamples –Ratio of trade inventories to sales –Ratio of consumer installment credit outstanding to personal income NBER Cyclical Indicators: Lagging

16. 11-16 Figure 11.6 Economic Calendar at Yahoo!

17. 11-17 Industry Analysis Sensitivity to business cycles Sector Rotation Industry life cycles

18. 11-18 Figure 11.7 Estimates of Earnings Growth Rates in Several Industries, 2004

19. 11-19 Sensitivity to Business Cycle Factors affecting sensitivity of earnings to business cycles –Sensitivity of sales of the firm’s product to the business cycles –Operating leverage –Financial leverage

20. 11-20 Figure 11.9 Industry Cyclicality

21. 11-21 Figure 11.10 A Stylized Depiction of the Business Cycle

22. 11-22 Sector Rotation Selecting Industries in line with the stage of the business cycle Peak – natural resource firms Contraction – defensive firms Trough – equipment, transportation and construction firms Expanding – cyclical industries

23. 11-23 Industry Life Cycles StageSales Growth Start-upRapid & Increasing ConsolidationStable MaturitySlowing Relative DeclineMinimal or Negative

24. 11-24 Figure 11.11 The Industry Life Cycle