Equity Markets and Equity Markets and Measures of WealthMeasures of Wealth
By: Amanda, Drew, Joe, Mark, By: Amanda, Drew, Joe, Mark, and Ryanand Ryan
Data Studied (I)Data Studied (I)
Quarterly trends of the stock Quarterly trends of the stock market from Jan 1, 2004 to Dec market from Jan 1, 2004 to Dec 31, 200631, 2006
Compared to: Compared to: Net worth and single-family home Net worth and single-family home
purchases (personal)purchases (personal) NYSE, DOW, S&P 500 (business NYSE, DOW, S&P 500 (business
spending)spending) GDP (national)GDP (national)
Data CollectedData Collected
Mainly through SurveysMainly through Surveys i.e. U.S. Censusi.e. U.S. Census
Shows government info on housing Shows government info on housing market and incomemarket and income
Given every 10 yearsGiven every 10 years
Gross Domestic ProductGross Domestic Product
GDP= consumption + GDP= consumption + investment + gov’t spending + investment + gov’t spending + (exports - imports)(exports - imports)
Tracked by the Bureau of Tracked by the Bureau of Economic AnalysisEconomic Analysis
Equity Markets (II)Equity Markets (II)
Indexes are used to measure the Indexes are used to measure the performance of stocksperformance of stocks
NYSE (New York Stock Exchange)NYSE (New York Stock Exchange) DOW (Dow Jones Industrial DOW (Dow Jones Industrial
Average): 30 of the largest and most Average): 30 of the largest and most widely held public companies in the widely held public companies in the USUS
S&P 500 (Standard & Poors): S&P 500 (Standard & Poors): measures the 500 large-cap measures the 500 large-cap corporationscorporations
Recent Stock Market Trends
-6.00%-4.00%-2.00%0.00%2.00%4.00%6.00%8.00%
10.00%12.00%
2004-I
2004-II
2004-III
2004-IV
2005-I
2005-II
2005-III
2005-IV
2006-I
2006-II
2006-III
Quarter
% Cha
nge
NYSE
DOW
S&P 500
Comparison of Net Worth and Comparison of Net Worth and the Stock Market (III)the Stock Market (III) Kevin Warsh, Board of Governors Kevin Warsh, Board of Governors
“Markets affect monetary policy “Markets affect monetary policy predominately through the predominately through the information provided by asset information provided by asset prices.”prices.”
Post 9/11, Fed saw decrease in net Post 9/11, Fed saw decrease in net worth through lack of confidence in worth through lack of confidence in stock market and began the 3 yr stock market and began the 3 yr drop in the Fed Funds rate from drop in the Fed Funds rate from 6.5% in Jan 2000 to 1% in July 20046.5% in Jan 2000 to 1% in July 2004
Housing MarketHousing Market
6 in 10 homeowners have more equity than 6 in 10 homeowners have more equity than stock wealthstock wealth
Lowering of interest rates made it cheaper to Lowering of interest rates made it cheaper to borrow money, causing mortgage rates to borrow money, causing mortgage rates to lowerlower
Caused an increase in housing market, and a Caused an increase in housing market, and a decline in the equity marketdecline in the equity market
This in turn, sparked the economy’s growth to This in turn, sparked the economy’s growth to all-time highs and due to inflationary pressures, all-time highs and due to inflationary pressures, the Fed raised the Fed. Funds ratethe Fed raised the Fed. Funds rate
Increased values in real estate caused Increased values in real estate caused individual’s net worth to increase alsoindividual’s net worth to increase also
Recently, housing mkt has decreased and has Recently, housing mkt has decreased and has sent equity down and net worth has followedsent equity down and net worth has followed
Commodity MarketsCommodity Markets
Provided the greatest inflationary Provided the greatest inflationary pressure on the economy and forced pressure on the economy and forced rate increasesrate increases
Ben Bernanke: “One likely source of Ben Bernanke: “One likely source of this deceleration (in consumer this deceleration (in consumer spending) was higher energy prices, spending) was higher energy prices, which have adversely affected the which have adversely affected the purchasing power of households and purchasing power of households and weighed on consumer attitudes…”weighed on consumer attitudes…”
Force consumers to spend money Force consumers to spend money on goods and services instead on on goods and services instead on increasing their net worthincreasing their net worth
Stock Market Effect on Stock Market Effect on Consumption (IV)Consumption (IV) NY FRB compares this to look for a way to NY FRB compares this to look for a way to
predict the behavior of consumers after an predict the behavior of consumers after an upward or downward trend in the stock upward or downward trend in the stock marketmarket
For every $1 increase in wealth, avg For every $1 increase in wealth, avg consumption increases by about $.03 to consumption increases by about $.03 to $.04$.04
However, is not correlated with future However, is not correlated with future consumption growth and cannot predict itconsumption growth and cannot predict it
Today’s stock market growth affects Today’s stock market growth affects today’s consumption growth, not today’s consumption growth, not tomorrow’stomorrow’s
How Fed actions affect How Fed actions affect ConsumptionConsumption Decreases the Fed Funds RateDecreases the Fed Funds Rate This decreases the cost of This decreases the cost of
borrowing money, encouraging borrowing money, encouraging consumers to borrow money to consumers to borrow money to increase consumption spendingincrease consumption spending
Business Spending and the Business Spending and the Stock Market (V)Stock Market (V)
Business Spending (cont.)Business Spending (cont.)
There is somewhat of a correlation There is somewhat of a correlation between the equity market and between the equity market and business spendingbusiness spending
Companies perform well, stock Companies perform well, stock prices go up, causing equity to rise, prices go up, causing equity to rise, companies then expand and spend companies then expand and spend more on facilities, employees, and more on facilities, employees, and projectsprojects
Thus, business spending increasesThus, business spending increases
Business Spending (cont..)Business Spending (cont..)
Avg Business spending growth per yr over Avg Business spending growth per yr over last two years: 9%last two years: 9%
Avg GDP growth per yr over same period: Avg GDP growth per yr over same period: 7% 7%
Percent of business spending at the end of Percent of business spending at the end of 2005: 10.75%, well below average2005: 10.75%, well below average
Could be due to recent accounting Could be due to recent accounting scandals and passing of the Sarbanes-scandals and passing of the Sarbanes-Oxley act requiring companies to spend Oxley act requiring companies to spend more money ensuring their books are in more money ensuring their books are in orderorder
Businesses investing more overseasBusinesses investing more overseas Business spending is expected to grow Business spending is expected to grow
steadily throughout the yearsteadily throughout the year
GDP and the Stock Market GDP and the Stock Market (VI)(VI)
Equity Markets vs. GDP
-0.06
-0.04
-0.02
0
0.02
0.04
0.06
0.08
0.1
0.12
Quarters
Perc
ent C
hang
e
Gross domesticproductDOW
NYSE
DOW
S&P 500
GDP and the Stock Market GDP and the Stock Market (cont.)(cont.) Std dev for the % change in GDP is Std dev for the % change in GDP is
about .3, as opposed to about 3.2 for about .3, as opposed to about 3.2 for the DOW...little to no correlationthe DOW...little to no correlation
Partly de to the fact that GDP Partly de to the fact that GDP includes government spending, includes government spending, which is not portrayed very well on which is not portrayed very well on the stock marketthe stock market
Although the indexes take into Although the indexes take into account a large portion of business account a large portion of business spending, it does not account for all spending, it does not account for all of itof it
FOMC and GDPFOMC and GDP
If GDP increases rapidly, it can If GDP increases rapidly, it can be seen as a sign of inflationbe seen as a sign of inflation
The Fed will then raise the Fed The Fed will then raise the Fed Funds Rate to counteract the Funds Rate to counteract the inflationinflation
However, the GDP is slowly However, the GDP is slowly increasing, leaving one to increasing, leaving one to believe that the Fed Funds Rate believe that the Fed Funds Rate should not be adjustedshould not be adjusted
Conclusion (VII)Conclusion (VII)
Keep Fed Funds Target Rate at 5¼Keep Fed Funds Target Rate at 5¼%%
Indicators have been mixed citing Indicators have been mixed citing stronger than expected job growth stronger than expected job growth and decreases in overall business and decreases in overall business spendingspending
Inflationary pressures do exist, but Inflationary pressures do exist, but business expansion should grow at a business expansion should grow at a moderate pacemoderate pace
Future changes will depend on Future changes will depend on inflation and future outlooksinflation and future outlooks