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Capital Market Expectations (Exogenous shocks events outside economic…
Capital Market Expectations
Framework
Framework
Specific set of expectations including time horizon
Research historical data
Specify method/model
Determine source of info
Interpret current environment
Provide set of expectations
Monitor and compare
Limitations/Challenges
limits to data
data measurement error & bias
limits to historical estimates
ex-post risk can be bias of ex-ante risk (fear)
biases in methods
failure accounting conditioning information
misinterpretation of correlation
psychological traps
model uncertainity
Exogenous shocks
events outside economic system
events from outside the economic system that affect its course
positive or negative changes
Policy changes
New products/technology
geo-politics
natural disasters
natural resources/critical inputs
financial crisis
Economic growth trend analysis
avg growth around the economic cycle
Growth from labour inputs
:arrow_up: in labour force
:arrow_up: actual labour force participation
slower
Growth from labour productivity
:arrow_up: growth from increasing
capital
inputs
:arrow_up: growth in total factor productivity
faster due to technology and capital input
Value of equity = GDP x share of profit in econ x PE ratio
E(equity)= Value of equity * Div yield
Approaches to economics forecasting
1. Econometric modelling
quant model using econ variables
structural model, reduced-form model
system of equations to forecast the future value of economic variables
:check: model are robust
:check: impact of changes in exogenous variable
:check: consistency on analysis
:red_cross: complex and time consuming
:red_cross: inputs not easy to forecast
:red_cross: may mis-specified
:red_cross: rarely forecast turning points well
2. Economic indicators
econ data (GDP etc)
past (lag), current (coincident), future (leading)
analysis required but revisions make index appear to be better
nowcasting = forecast GDP as data comes in
:check: simple, easy to track
:check: focus on identifying turning points
:red_cross: current not reliable input for historical
:red_cross: overstate forecast accuracy, false signals
3. Checklist approaches
ask series of questions to panel
subjective judgement
:check: simple, flexible
:check: items easy to add/drop
:red_cross: subjective
:red_cross: time consuming
Business cycle analysis
fluctuation in GDP in relation to trend growth
recurring, unpredicatble, non-uniform
1. Recovery
pick up from slowdown/recession
Govt yields bottom
stocks rally
cyclical assets and riskier assets outperform
2. Early upswing
confidence grows, econ gains without inflation
short rates move up, long rates stable
stocks rising
3. Late upswing
output gap closed, inflation rise, confidence high
interest rate rising
stock rise but vol
Monetary shit to neutral to hawkish
4. Slowdown
econ slow, confidence drop
short rates topped
bonds rally
stocks fall
5. Recession
large inventory pullback, drop in business invesment
short rate and bond yields drop
stocks drop and bottom
Monetary and Fiscal
Monetary policy
*
- Taylor rule = neutral target rate + inflation + 0.5(GDP - GDPtrend) + 0.5(Inf - Inf target)**
quant easing = push down longer rates by buying govt securities
negative policy rates
Fiscal policy
mix of fiscal and monetary policy affect level & shape of YC
International interactions
1, Macroeconomic linkages
trade
foreign direct investment
capital flows
2. Interest rate/exchange rate linkage
allows unrestricted capital
maintain fixed rate
pursue independent monetary policy