A brief introduction of the Macroeconomic factors and their effect on investment decision making and stock market performance

1. The Macroeconomic
Environment for Investment
Decisions
Dr. Adeel Nasir

2. The Economic Envirnoment
• Investment decisions made through economic environment
• Economy goes through different stages known as business Cycle
• There is a strong relationship between stock prices and aggregate
economy
• Each of these events is important. The dramatic increase in the price
of oil, the collapse of segments of the banking and financial system.

3. Measure of Economic Activity
• Gross Domestic Product (GDP)
• Total value of all final goods and services newly produced within a country by
domestic factors of production.
• Gross National Product (GNP)
• is the total value of all final goods and services newly produced by an economy and
includes income generated abroad
• GDP may be computed by adding the expenditures of the sectors of an
economy or by adding all sources of income
• personal consumption (C), gross private
domestic investment (I), government spending (G), and net exports (E)

4. Measure of Economic Activity
• GDP grows but the rate of growth varies. As the economy expands,
employment also tends to increase
• periods when the economy contracts and unemployment increases. If
the contraction lasts for more than two quarters, it is referred to as a
recession
• Recession is a period of rising unemployment and declining national
output.

5. Federal Researve
• Central bank of united states
• federal government and the Federal Reserve share the same general
goals of full employment, stable prices, and economic growth
• The Federal Reserve pursues these economic goals through its impact
on the supply of money and the cost of credit

6. Determination of interest rate
• Real interest rate (r*)
• It is determine by the supply and demand
• Nominal Risk free rate of interest
• Real interest rate plus inflation premium
• NRFR = r* + IP
• Nominal interest rate
• Rate of interest which is actually charged by the lender to borrower
• NR = r* + IP + RP
• RP is the risk premium
• Risk premium can be due to business risk, default risk, counter party risk, interest rate
risk, liquidity risk etc

7. The impact of the Federal Reserve on interest
Rates
• The Federal Reserve affects interest rates through its power to change
the money supply by using the tools of monetary policy
• Tools of monetary policy
• the reserve requirements of banks, the discount rate, and open market
operations.
• Research requirement: The percentage of cash that banks must
hold against their deposit liabilities
• discount rate: The rate of interest that the Federal Reserve charges
banks for borrowing reserves.
• open market operations: The buying or selling of Treasury securities
by the Federal Reserve.

8. Fiscal Policy
• Taxation, expenditures, and debt management by the federal
government
• deficit spending: in which expenditures exceed revenues, can affect
the financial markets and securities prices
• The federal government may obtain funds to finance this deficit from
three sources: (1) the general public, (2) banks, and (3) the Federal
Reserve
• Surplus: Receipts exceeding disbursements.