Equity Markets and Measures of Wealth

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Equity Markets and Measures of Wealth

• By Amanda, Drew, Joe, Mark, and Ryan

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Data Studied (I)

• Quarterly trends of the stock market from Jan 1,
  2004 to Dec 31, 2006
• Compared to
• Net worth and single-family home purchases
  (personal)
• NYSE, DOW, SP 500 (business spending)
• GDP (national)

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Data Collected

• Mainly through Surveys
• i.e. U.S. Census
• Shows government info on housing market and
  income
• Given every 10 years

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Gross Domestic Product

• GDP consumption investment govt spending
  (exports - imports)
• Tracked by the Bureau of Economic Analysis

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Equity Markets (II)

• Indexes are used to measure the performance of
  stocks
• NYSE (New York Stock Exchange)
• DOW (Dow Jones Industrial Average) 30 of the
  largest and most widely held public companies in
  the US
• SP 500 (Standard Poors) measures the 500
  large-cap corporations

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Comparison of Net Worth and the Stock Market (III)

• Kevin Warsh, Board of Governors Markets affect
  monetary policy predominately through the
  information provided by asset prices.
• Post 9/11, Fed saw decrease in net worth through
  lack of confidence in stock market and began the
  3 yr drop in the Fed Funds rate from 6.5 in Jan
  2000 to 1 in July 2004

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Housing Market

• 6 in 10 homeowners have more equity than stock
  wealth
• Lowering of interest rates made it cheaper to
  borrow money, causing mortgage rates to lower
• Caused an increase in housing market, and a
  decline in the equity market
• This in turn, sparked the economys growth to
  all-time highs and due to inflationary pressures,
  the Fed raised the Fed. Funds rate
• Increased values in real estate caused
  individuals net worth to increase also
• Recently, housing mkt has decreased and has sent
  equity down and net worth has followed

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Commodity Markets

• Provided the greatest inflationary pressure on
  the economy and forced rate increases
• Ben Bernanke One likely source of this
  deceleration (in consumer spending) was higher
  energy prices, which have adversely affected the
  purchasing power of households and weighed on
  consumer attitudes
• Force consumers to spend money on goods and
  services instead on increasing their net worth

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Stock Market Effect on Consumption (IV)

• NY FRB compares this to look for a way to predict
  the behavior of consumers after an upward or
  downward trend in the stock market
• For every 1 increase in wealth, avg consumption
  increases by about .03 to .04
• However, is not correlated with future
  consumption growth and cannot predict it
• Todays stock market growth affects todays
  consumption growth, not tomorrows

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How Fed actions affect Consumption

• Decreases the Fed Funds Rate
• This decreases the cost of borrowing money,
  encouraging consumers to borrow money to increase
  consumption spending

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Business Spending and the Stock Market (V)
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Business Spending (cont.)

• There is somewhat of a correlation between the
  equity market and business spending
• Companies perform well, stock prices go up,
  causing equity to rise, companies then expand and
  spend more on facilities, employees, and projects
• Thus, business spending increases

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Business Spending (cont..)

• Avg Business spending growth per yr over last two
  years 9
• Avg GDP growth per yr over same period 7
• Percent of business spending at the end of 2005
  10.75, well below average
• Could be due to recent accounting scandals and
  passing of the Sarbanes-Oxley act requiring
  companies to spend more money ensuring their
  books are in order
• Businesses investing more overseas
• Business spending is expected to grow steadily
  throughout the year

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GDP and the Stock Market (VI)
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GDP and the Stock Market (cont.)

• Std dev for the change in GDP is about .3, as
  opposed to about 3.2 for the DOW...little to no
  correlation
• Partly de to the fact that GDP includes
  government spending, which is not portrayed very
  well on the stock market
• Although the indexes take into account a large
  portion of business spending, it does not account
  for all of it

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FOMC and GDP

• If GDP increases rapidly, it can be seen as a
  sign of inflation
• The Fed will then raise the Fed Funds Rate to
  counteract the inflation
• However, the GDP is slowly increasing, leaving
  one to believe that the Fed Funds Rate should not
  be adjusted

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Conclusion (VII)

• Keep Fed Funds Target Rate at 5¼
• Indicators have been mixed citing stronger than
  expected job growth and decreases in overall
  business spending
• Inflationary pressures do exist, but business
  expansion should grow at a moderate pace
• Future changes will depend on inflation and
  future outlooks