Macroeconomic factors affect stock returns.

Examine How Macroeconomic Factors Affect Stock Returns

examine how macroeconomic factors affect stock returns.
Order Instructions:
The goal of the project: We examine how macroeconomic factors affect stock returns.
Empirically, we can test the following model;
Rt= ?0 + ?1*Market Indext-1+ ?2*Inflationt-1+ ?3*GDP Growtht-1+ ?4*TERMt-1+ ?5*RISKt-1+?

1. Dependent variable: firms� stock returns
I posted firms� stock returns in three industries (air, auto, and computer) to Blackboard. You can analyze any firm as you wish. You can pick multiple firms from three different industries, or a single firm from a specific industry.
Variable Explanations
DATE: the end of trading date at each month
COMNAM: Company name
EXCHCD: Exchange code (1: NYSE, 2: AMEX, and 3:NASDAQ)
HSICCD: Industry classification (e.g., The SIC 4512 represents an airline industry.
PRC: Stock price at the end of each month�s trading date
RET: Stock returns at the end of each month�s trading date
SHROUT: shares outstanding
VWRETD: Market index
2. Independent variables: macroeconomic variables
* The Source of data: http://research.stlouisfed.org/fred2/tags/series
Download data as long as we believe that variables may affect stock returns.
There are some candidates for independent variables.
Market Index=VWRETD, and Firm Size= PRC*SHROUT
Inflation= log (CPIt / CPIt-1), and GDP Growth=log (GDPt / GDPt-1)
TERM= 10-year T/B � 3-month T/B, and RISK= BAAt � 10-year T/B?
Questions
1) Report summary statistics (n, mean, median, standard deviation, min, max) of your picked variables.
2)Why do you include such independent variables? Give me a brief explanation.
3) Run a regression and report coefficients and t-statistics for the explanatory variables.
4) Interpret coefficients of each variable. Compare it with your prediction
5) What is your investment strategy based on your findings?
* To obtain full credit (20 points), you need to submit it by July 8th, 2014.Grade below 10 points will be counted as zero.
* The minimum requirement is 5 different firms and 5 independent variables.
* TERM and RISK should be included as independent variables.
* If you need a reference, please look at the paper written by Nai-Fu Chen, Richard Roll, and Stephen A. Ross. The title is �Economic Forces and the Stock Market (Journal of Business, 1986)�.

Abstract

There are many macroeconomic factors that affect the stock market globally. Inflation and deflation have adverse financial effects on a company’s profitability which subsequently affect the stock market. The rate of increment on the prices of goods and other services constitutes inflation besides the increase in the cost of transportation and manufacturing expenses. (Swann, 2009) The stock market responds powerfully when the rate of inflation is low and weakens when it increases as most companies reduce their expenditures because of high cost of goods and services and the general money in economy reduces which results in reduced activities at the stock market. Deflation in most quarters is regarded as a sign of a weak economy as it also leads to a decrease in the stock market. (Chen, Roll and Ross, 1986)

The interest rates are established and monitored by Federal Reserve Board. Higher rates of interests are caused by the expensive nature of borrowing money. Money becomes too expensive to borrow. To subsidize their high rates of interests, most companies may opt to lay off workers and reduce expenditures on other goods. Higher rates of interests imply that even companies will not be comfortable when borrowing as the rate of interests becomes exorbitant and their income will also be affected. (Cairns, 2004) When the income of listed companies reduces then the investments in the stock market is also affected negatively.

1

Sun Microsystems
	PRC	RET	SHROUT	WRETD
n	132	132	133	133
Mean	22.36021	0.001747	2447123	0.002766
Median	114.34	-0.08963	955344.5	-0.184
STD	34.098	0.16257	1201797	0.048607
Min	2.59	-0.39474	385583	-0.18462
Max	132.25	0.564103	3602000	0.110533
FRANKLIN ELCTRONIC PUBLISHS
	PRC	RET	SHROUT	WRETD
n	133	133	134	134
Mean	3.182147	0.013589	8063.91	0.003009
Median	9.445006	0.066578	8504.844	0.053974
STD	4.080006	0.21349	402.3438	0.053359
Min	-3.845	-0.46429	7818	-0.18462
Max	11.9375	1.141434	8387	0.110533
SILICON GRAPHICS INC
	PRC	RET	SHROUT	WRETD
n	82	82	83	83
Mean	4.081159	0.025353	211362.6	0.003827
Median	14.69741	0.253384	439218.6	0.012599
STD	14.06612	0.521925	57156.86	0.041823
Min	0.44	-0.54676	182872	-0.10253
Max	20.5625	2.782609	268272	0.083911
APPLE COMPUTER INC
	PRC	RET	SHROUT	WRETD
n	96	96	96	96
Mean	43.137	0.035008	438980.5	0.004941
Median	63.01375	-0.03415	498318.5	0.024586
STD	30.86698	0.056931	511806	0.019459
Min	14.14	-0.57744	136417	-0.10253
Max	135.8125	0.453782	860220	0.083911
UAL CORP
	PRC	RET	SHROUT	WRETD
n	51	51	52	52
Mean	36.4751	-0.05963	56649.73	-0.00232
Median	62.25	0.042932	74327	0.060554
STD	43.42343	0.187492	32795.61	0.019813
Min	0.84	-0.51765	49792	-0.10253
Max	80.75	0.326258	99506	0.083911
FORD MOTOR CO
	PRC	RET	SHROUT	WRETD
n	144	144	144	144
Mean	17.04726	0.009958	1961721	0.004096
Median	39.11375	0.054011	2270481	0.053095
STD	31.57055	0.00097	1599931	0.02086
Min	16.79	0.053325	1139159	0.038345
Max	63.9375	1.273764	3401803	0.110533

2. Independent variables are included as they determine or influence other variables. An independent variable when manipulated determines or influences the change in the other dependent variable. This study seeks to determine if a relationship exists between the returns of the stock market and the macro economic factors that may affect the overall performance of the stock market.

3.  Ford Motor Co

SUMMARY OUTPUT
Regression Statistics
Multiple R	0.4995218
R Square	0.249522
Adjusted R Square	0.244237
Standard Error	0.148835
Observations	144
ANOVA
	df	SS	MS	F	Significance F
Regression	1	1.04585	1.04585	47.213	1.849E-10
Residual	142	3.14556	0.02215
Total	143	4.19142
	Coefficient	Standard error	t Stat	P-value	Lower 95%	Upper 95%	Lower 95.0%	Upper 95.0%
Intercept	0.0029	0.0124	0.2290	0.8192	-0.0218	0.0275	-0.0218	0.0275
VWRETD	1.7354	0.2526	6.8712	0.0000	1.2361	2.2347	1.2361	2.2347

Franklin Electronic Publish Inc

SUMMARY OUTPUT
Regression Statistics
Multiple R	0.31
R Square	0.09
Adjusted R Square	0.09
Standard Error	0.23
Observations	133.00
ANOVA
	df	SS	MS	F	Sig F
Regression	1	0.715	0.715	13.554	0.000
Residual	131	6.915	0.053
Total	132	7.631
	Coeff	Std Error	t Stat	P-value	Lower 95%	Upper 95%	Lower 95.0%	Upper 95.0%
Intercept	0.0094	0.019955	0.47106	0.6383832	-0.03	0.048876	-0.03008	0.048876
VWRETD	1.5147	0.411416	3.68157	0.0003377	0.7008	2.328532	0.700776	2.328532

UAL Corp

SUMMARY OUTPUT
Regression Statistics
Multiple R	0.552
R Square	0.304
Adjusted R Square	0.290
Standard Error	0.156
Observations	51.000
ANOVA
	df	SS	MS	F	Sign f
Regression	1	0.521	0.521	21.442	0.000
Residual	49	1.191	0.024
Total	50	1.712
	Coeff	Std error	t Stat	P-value	Lower 95%	Upper 95%	Lower 95.0%	Upper 95.0%
Intercept	-0.052	0.022	-2.372	0.022	-0.096	-0.008	-0.096	-0.008
VWRETD	1.933	0.418	4.631	0.000	1.094	2.772	1.094	2.772

Sun Microsystems

Regression Statistics
Multiple R	0.664
R Square	0.441
Adjusted  R Square	0.437
Standard Error	0.122
Observations	132.000
ANOVA
	df	SS	MS	F	Significance F
Regression	1	1.527	1.527	102.6	3.92E-18
Residual	130	1.935	0.015
Total	131	3.462
	Coeffici	Std Error	t Stat	P-value	Lower 95%	Upper 95%	Lower 95.0%	Upper 95.0%
Intercept	-0.005	0.011	-0.476	0.635	-0.026	0.016	-0.026	0.016
VWRETD	2.219	0.219	10.130	0.000	1.785	2.652	1.785	2.652

Silicon

Regression Statistics
Multiple R	0.260
R Square	0.067
Adjusted R Square	0.056
Standard Error	0.403
Observations	82.00
ANOVA
	df	SS	MS	F	Sig  F
Regression	1	0.939	0.939	5.787	0.018
Residual	80	12.97	0.162
Total	81	13.91
	Coe	Std error	t Stat	P-value	Lower 95%	Upper 95%	Lower 95.0%	Upper 95.0%
Intercept	0.017	0.045	0.391	0.697	-0.071	0.106	-0.071	0.106
VWRETD	2.338	0.972	2.406	0.018	0.404	4.272	0.404	4.272

4. Interpretation

Ford Motor Co.

The thesis of the study is to establish if a relationship exists between the performance of individual stocks belonging to different companies and the performance of the stock market and if the stock market can be affected by macroeconomic factors such as real GDP growth, inflation, interest rates or unemployment.

P-Value – 0.8192 It indicates that the significant relationship between the returns of the market and the performance of the markets index is very low.

Coefficient – 1.7354 The slope is of the graph is positive which indicates that the stock returns increases relatively to the increase in the stock index.

R square – 0.2495 The R square measures the strength of the relationship, how strong or weak the relationship is. In this case we can conclude that the variability of the stock market index explains only 24.95% of the stock returns.

Franklin Electronic Publish Inc

P-Value – 0.6383 It indicates that the significant relationship between the returns of the market and the performance of the markets index is very low.

Coefficient – 1.514 The slope is of the graph is positive which indicates that the stock returns increases relatively to the increase in the stock index.

R square – 0.09 The R square measures the strength of the relationship, how strong or weak the relationship is. In this case we can conclude that the variability of the stock market index explains only 9 % of the stock returns.

UAL Corp

P-Value – 0.022 It indicates that the significant relationship between the returns of the market and the performance of the markets index is very low.

Coefficient – 1.933 The slope is of the graph is positive which indicates that the stock returns increases relatively to the increase in the stock index.

R square – 0.304 The R square measures the strength of the relationship, how strong or weak the relationship is. In this case we can conclude that the variability of the stock market index explains only 30.4% of the stock returns.

Sun Microsystems

P-Value – 0.635 It indicates that the significant relationship between the returns of the market and the performance of the markets index is very low.

Coefficient – 2.219 The slope is of the graph is positive which indicates that the stock returns increases relatively to the increase in the stock index.

R square – 0.441 The R square measures the strength of the relationship, how strong or weak the relationship is. In this case we can conclude that the variability of the stock market index explains only 44.1% of the stock returns. (Draper & Smith, 1998)

Silicon

P-Value – 0.697 It indicates that the significant relationship between the returns of the market and the performance of the markets index is very low.

Coefficient – 2.338 The slope is of the graph is positive which indicates that the stock returns increases relatively to the increase in the stock index.

R square – 0.067 The R square measures the strength of the relationship, how strong or weak the relationship is. In this case we can conclude that the variability of the stock market index explains only 6.7% of the stock returns.

                                 The Relationship Between RET and WRETD

My findings that are based on the graph above indicate that there is no relationship between the returns on the stock market and the general performance of the stock index. My predictions were that the relationship that exists between the stock market and the performance of the individual stocks is very limited.

Macro-Economic Analysis

                              USA Macro-Economic Indicators

Source: http://research.stlouisfed.org/fred2/tags/series?t=&pageID=9

                  Source: http://research.stlouisfed.org/publications/iet/

Source :http://research.stlouisfed.org/publications/iet/

The analysis from the above graphs indicate that there is a significant relationship between the returns on company stocks and the macro economic factors such as real GDP growth, unemployment level and inflation rate. When the macro-economic factors in the growing are positively improving then most company stocks post good returns. When the factors are negative, for instance when the rates of inflation and unemployment are so high then the stock returns also post low returns. In the year 2008, during the global economic crisis, most economies registered negative real GDP growth, the unemployment levels were so high and inflation rates were at their peak in most countries. The stock returns for most countries were also affected negatively and they registered a drop in their earnings. When inflation rates are so high most companies lay off workers to reduce expenses and decrease borrowings due to the high cost of borrowing while unemployment levels increases, the real GDP growth also decreases due to reduced circulation of money in the economy. (Swann, 2009)  The company stocks are calculated and classified as per its volatility and in accordance with the stock market risks and beta. During the economic crisis of 2008, the volatility of most stocks were at their highest together with the term of most bonds.

5. My investment strategy would be to invest as per the performance of the individual company stock and not the general performance of the stock market.

References

Cairns, J (2004). Interest Rate Models – An Introduction. Princeton University Press.

Chen, N., Roll, R. and Ross, S.A. (1986) Economic Forces and the Stock Market. Journal of Business.

Draper, N.R., Smith, H. (1998). Applied Regression Analysis (3rd Ed.). John Wiley.

Sullivan, Sheffrin, S (2003). Economics: Principles in action. Upper Saddle River, New Jersey

Pearson, Prentice Hall.

Swann, C. (2009) “GDP and the Economy – Advance Estimates for the Second Quarter of

2009,” Survey of Current Business, August 2009.