Download A SAS® Recent Analysis of the Us Stock Market Performance

A SAS® RECENT ANALYSIS OF THE
US STOCK MARKET PERFORMANCE
Kamal Shoukry, Loyola Marymount University, L.A., CA
ABSTRACT
This study traces the responses and reactions of the US Stock Market to changes in the
US economy through the phases from an average performance to a recession , a hesitant
incomplete revival with uncertain recovery symptoms and hopes for a true recovery
during 2005. Causes of the decline in the international value of the USD and its recent
signs of strength since April 2004 are also analyzed.
INTRODUCTION
Two models are used for this study, an annual model covers the period of 1970 to 2004,
and a monthly model for 1999 to 2004. This is to determine which of the two models is
more efficient with higher measures of reliability for such analysis and to find out which
of the data versions is more influential on the stock market index : the original magnitude
of the key variable, lagged, or differenced. The Dow Jones Industrial Average Index
(DJI) is used here. It is more popular and more sensitive than Standard and Poor Index
(S&P) which is used for international comparisons among World Indices. On the average
the magnitude of the (DJI) is approximately around 9.1 times the (S&P). With proper
scaling the plot of the S&P index would almost coincide with the plot of the Dow trend
and its fluctuations.
Graphically, the Dow’s growth path consists of a trend and vibrations. The economic
forces which dominate the functioning and performance of the stock market can be
classified under two categories : the remote effect forces which shape the trend of the
Dow, and the immediate effect forces which generate the vibrations of the Dow path.
The remote effect forces are contained in the long run growth of the key macroeconomic
variables generally referred to as economic indicators and can be monitored by observing
the process of economic growth of the economy quantitatively. The growth process is
mainly a process of capital accumulation made possible by corporate spending on real
investment to buy machinery and productive equipment. Financial investment in the
stock market is the counter part or the echo to such real investment. The volatility of
financial investment spending is a result of the volatility of real investment spending and
of corporate profits. Both real and financial investment spending rely mainly on two
conditions : certainty and optimism. In the complete absence of such conditions both
types of investment can come to a halt. Financial decisions to invest are based on
expectations about : economic events, announcements, and information which may
generate optimism or pessimism. Optimistic expectations tend to drift the Dow path
upward, and pessimistic expectations drifts the path downward thereby creating the path
vibrations.
The factor which provides the incentive for financial investors to increase their spending
on buying financial assets in the stock market , like stocks and bonds , is the excess of the
profit (or earning) rate above the interest cost rate. This is the net profit or net gain. This
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is according to the Keynesian rule, of John Maynard Keynes, which guides both real and
financial investments spending. The rule says, continue to increase spending on
investment as long as profit rate is higher than market interest rate.
GROWTH RATES OF THE DOW AND KEY VARIABLES
The highest correlated key variables to the Dow (DJI) are Gross Domestic product (GDP)
95.04 %; Real Investment Expenditure (VST) 96.81 %; Real Consumption Expenditures
(CNS) 96.49 %; Total Dividends (DIV) 96.71 %; Total Industrial Index (NDX) 97.07 %;
and Total Civilian Employment (MPL) 87.55 % .
The plot of the Dow from 1970 to 2004 shows four distinct segments: (1) the earliest
segment from 1970 to 1984 is almost flat but slightly rising at an annual average growth
rate (AAGR) of 2.73 %; (2) the second segment of 1984 to 1994 is upward rising at an
(AAGR) of 12.32 %; (3) the third segment of 1994 to 1999 is rising sharply upward at an
(AAGR) of 22.90 %; (4) the fourth segment is almost flat but declining at an (AAGR) of
–1.57 %, that is negatively sloped.
Thr following table shows the average annual growth rates (AAGR) for the Dow and
those six key variables during the time periods of the four distinct phases or segments of
the 1970-2004 Dow trend.
Phase Time Period
DJI
GDP
VST
CNS
DIV
NDX
MPL
1970 to 1984
%
2.73 2.78
5.43
5.97
10.16 2.56
2.17
1984 to 1994
% 12.32 2.68
2.84
4.31
10.39 2.16
1.62
1994 to 1999
% 22.90 4.17
8.38
9.08
6.47 5.67
1.52
1999 to 2004
% -1.57 2.65
2.63
5.00
5.64 1.83
.65
During the third segment time span of 1994 to 1999, the table shows that the (AAGR) of
real (uninflated) GDP as 4.17, real VST as 8.38 (an unusually high rate), real CNS as
9.08 % (another unusually high rate), and an industrial capacity (NDX) of 5.67 %.
Those growth rates are much higher than the rates of any other segments time spans.
Such unusually high growth rates of four important key variables explain at least two
results. First, the highest growth for the Dow (DJI) of 22.9 % during the whole period
of study (1970 to 2004). Second, The Federal Budget surplus which has been realized
during the period 1994to 1999. The decline of total employment (MPL) growth rate from
1.62 % of the previous period to 1.52 %,was associated by a notable improvement in
resources’ productivity which shifted aggregate supply outward.
No sizable changes occurred in the growth rates of the key variables from the first
segment to the second except for the drop of the growth rate of real investment (VST)
from 5.43 % to 2.84 % . This may not be considered unusual given the well known
volatility of real investment.
Comparing the third segment to the fourth. The Dow growth (AAGR) dropped from
22.9 % a negative rate of -1.57 % because of the sizable declines of the growth rates of
the key variables. GDP rate dropped from 4.17 % 2.65 %; investment rate fell from
8.38 to 2.63 %; consumption down from 9.08 % to 5.00 %; total dividend (DIV) rate
dropped from 6.47 % to 5.64 %; the index of industrial capacity (NDX) fell from 5.67
% to 1.83 %; and employment growth down from 1.52 % to less than one percent (.65).
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MODEL PARAMETERS ESTIMATES AND RELIABILITY
In the annual model for the period of study of 1970 to 2004, the dependent variable is the
DJI. The independent variables are the industrial index (NDX), implicit price deflator
(IPD), net gain (NGN) in excess of the one year Treasury Bill rate, total dividend (DIV),
steel price (STL), and real private investment (VST). According to Proc Stepwise all
independent variables in the model are significant at the 0.1500 level The following are
parameters estimates and measures of model reliability.
R –Square 0.9887 (Adj. 0.9863), F Value 407.96 , Pr > F < .0001.
Variable
DF Parms Est.
StdEr.
T value Pr > |t|
Intercept
1 -4245.55379 1385.05457
-3.07
0.0048
NDX
1
98.82743
25.76124
3.84
0.0007
IPD
1
-58.05506
12.31847
-4.71
<.0001
NGN
1
24.25816
13.17703
1.84
0.0762
DIV
1
8.91847
3.58014
2.49
0.0189
STL
1
-5.53580
1.74783
-3.17
0.0037
VST
1
2.53156
1.10031
2.30
0.0291
This model can predict or forecast the Dow trend reasonably well but not its vibrations
because they occur instantaneously and are of random nature.(NGN is market risk
premium).
The monthly model did not achieve acceptable measures of reliability.
THE RECENT US STOCK MARKET PERFORMANCE
Historically, every unusual hike in oil price since the 1970’s was immediately followed
by a recession. The sharp price rise per barrel of oil to $ 34 was followed by the 1982
recession. The 1991 recession overlapped the sharp rise of oil which reached $ 32. The
sharp rise of oil to $ 32 in March 2000 was immediately followed by the recession of
that year. The “Great Stagflation” of the Seventies 1978-80 was due to a combination of
high prices of both steel and oil. The recession of the 2000 was aggravated by September
11. Since then, a high degree of uncertainty prevailed in the economy. On numerous
occasions the stock market reacted adversely to economic and political announcements
by crashing with the Dow loosing 100 points or more. Occasionally when some uncertain
symptoms of recovery appeared, the stock market responded favorably by rising but not
for long. The economy did not have a chance to fully recover. During recession and in the
absence of sustained growth there would be low or no dividend distributions and the
stock index continues to fluctuate down and up below and above a flat segment of the
Dow trend. Bargain hunters take advantage of such downs and ups. When the stock
market is down they buy lage amounts cheaply and as the market starts to rise they sell
larger quantities of stocks at higher prices to collect capital gains thereby helping the
market to rise further. The high degree of uncertainty caused both real private investment
and financial investment to contract. In addition, two events caused two adverse supply
shocks. An import duty on steel caused the price of steel to rise by 66 %. It was thought
that the duty may lower steel prices. The second supply shock came from a rise in oil
price reaching $ 42 in early July 2004. The price went down to $ 35 when oil supply
increased, but started to rise to reach $ 43.8 by the end of July. On July 23, 2004 the
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Dow dropped below the 10000 level to 9962 then went up to 10139 by the end of the
same month.
THE INTERNATIONAL VALUE OF THE DOLLAR
At least four main factors influence the international value of the USD as well as all other
currencies of the world. US supply of the dollar abroad, foreigners demand for the dollar,
relative rates of inflation among different countries, and relative interest levels among
different countries. The increase of the currency supply abroad tends to lower its
international value. The increase in foreign demand for the currency increases its value.
The higher the relative inflation rate in a country compared to other countries the lower
becomes its currency value relative to those of other countries. The following table shows
the values of the US Dollar in terms of the European and Japanese currencies, the Euro
and the Yen, that is how much one dollar can buy of each of those currencies.
Year
1970 1975 1980 1985 1990
1995
2000
2004
$1 = ? Euro .60 .65
.78
1.15 .73
.78
1.11
.83
$1 = ? Yen 358 305
209
203
134
102
112
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Recently, the supply of the USD abroad has increased considerably while foreigners
demand for it was decreasing. Interest level was kept at its irreducible minimum level to
help the economy recover and to stimulate stock market performance. In addition, some
inflationary pressures developed because of the inflationary recession or stagflation.
Those caused the USD international value to decline. The Federal Reserve announcement
of its intention to raise the interest level to curb inflationary pressures discouraged
financial investors of the stock market but helped the USD value to increase. Then the
actual rise of interest by a quarter of one percent helped that increase in the dollar value.
The change in the currency value move in the same direction with the change of interest
level. The uninflated recession raises the currency’s value if imports decrease. Also, a
balance of payments surplus raises the curency’s value and a deficit lowers it.
CONCLUSION
A high degree of uncertainty can bring both the economy’s real investment and stock
market financial investment to a halt, and would render all known economic policies
almost completely ineffective. This is explained by the sluggish response of the economy
to a combination of highly expansionary fiscal and monetary policies. Raising interest to
curb inflationary pressures usually operates on the demand side alone. And in a situation
of cost push inflation due to adverse supply shocks caused by high energy and steel
prices it would be useful to use measures which operate on the supply side. Reduction of
some selected indirect taxes can shift aggregate supply outward and down thereby
increasing total output and lowering the price level. The loss of indirect taxes revenues
can be compensated for by an increase in income taxes, a measure which would help
curbing inflated spending. Studies are needed to find ways to reduce the unusually high
degree of uncertainty in order to promote a climate of optimism to stimulate investments
for both the economy and the stock market.
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CONTACT INFORMATION
Your comments and questions are valued and encouraged. Contact the author at:
Kamal Shoukry
Loyola Marymount University, One LMU Drive,
Los Angeles, CA 90045
310-338-2815
310-338-1950
[email protected]
[email protected]
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