Fundamental Analysis

Topics: Stock market, Inflation, Economics Pages: 10 (2914 words) Published: March 19, 2013
Chapter: 12
The intrinsic value of an equity share depends on a multitude of factors. The earnings of the company, the growth rate and the risk exposure of the company have a direct bearing on the price of the share. These factors in turn rely on the host of other factors like economic environment in which they function, the industry they belong to, and finally companies’ own performance. The fundamental school of thought appraised the intrinsic value of the shares through * Economic Analysis

* Industry Analysis
* Company Analysis
The level of economic activity has an impact on investment in many ways. If the economy grows rapidly, the industry can also be expected to show rapid growth and vice versa. When the level of economic activity is low, stock prices are low, and when the level of economic activity is high, stock prices are high reflecting the prosperous outlook for sales and profit of the firms. The analysis of macro-economic environment is essential to understand the behavior of the stock prices. The commonly analysed macro-economic factors are as follows: (1) Gross Domestic Product (GDP)

GDP indicates the rate of growth of the economy. GDP represents the aggregate value of the goods and services produced in the economy. GDP consists of personal consumption expenditure, gross private domestic investment and government expenditure on goods and services and net export of goods and services. The estimates of GDP are available on an annual basis. The higher growth rate is more favorable to the stock maket.

(2) Savings and Investment
It is obvious that growth requires investment which in turn requires substantial amount of domestic savings. Stock market is a channel through which the savings of the investors are made available to the corporate bodies. Savings are distributed over various assets like equity shares, deposits, mutual fund units, real estate and bullion. The savings and investments patterns of the public affect the stock to a great extend
(3) Inflation
Along with the growth of GDP, if the inflation rate also increases, then the real rate of growth would be very little. The demand in the consumer product industry is significantly affected. The industries which come under the government price control policy may lose the market, for example Sugar. The government control over this industry, affects the price of the sugar and thereby the profitability of the industry itself. If there is a mild level of inflation, it is good to the stock market but high rate of inflation is harmful to the stock market. (4) Interest Rates

The interest rate affects the cost of financing to the firms. A decrease in interest rate implies lower cost of finance for firm and more profitability. More money is available at a lower interest rate for the brokers who are doing business with borrowed money. Availability of cheap fund, encourages speculation and rise in the price of shares. (5) Budget

The budget provides an elaborate account of the government revenues and expenditures. A deficit budget may lead to high rate of inflation and adversely affect the cost of production. Surplus budget may result in deflation. Hence, balanced budget is highly favourable to the stock market. (6) The Tax Structure

Every year in March, the business community eagerly awaits the Government’s announcement regarding the tax policy. Concessions and incentives given to a certain industry encourage investment in that particular industry. Tax reliefs given to savings encourage savings. The type of tax exemption has impact on the profitability of the industries. (7) The Balance of Payment

The balance of payment is the record of a country’s money receipts from and payments abroad. The difference between receipts and payments may be surplus or deficit. Balance of payment is a measure of the...
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