Professional Documents
Culture Documents
Capital Market
Markets for buying and selling equity and debt instruments. Capital
markets channel savings and investment between suppliers of capital
such as retail investors and institutional investors, and users of capital
like businesses, government and individuals. Capital markets are vital to
the functioning of an economy, since capital is a critical component for
generating economic output. Capital markets include primary markets,
where new stock and bond issues are sold to investors, and secondary
markets, which trade existing securities.
Feature of Capital Market
Capital market is a market for medium and long term funds. It includes
all the organizations, institutions and instruments that provide long term
and medium term funds.
Features
1. Link between Savers and Investment Opportunities:
Return
-10
-10
5
10
15
20
30
55
Probability R X P
0.05
0.10
0.15
0.25
0.30
0.10
0.05
-0.75
-1.00
0.75
2.50
4.50
2.00
1.50
R
=9.50
R
R
-24.50
-19.50
-4.50
0.50
5050
10.50
20.50
(R R )2
600.25
380.25
20.25
0.25
30.25
110.25
420.25
(R R
)2 xP
30.0125
38.025
3.0375
0.625
9.0750
11.0250
21.0125
112.8125
2 = P(R R )2
2
=
SD = 112.8125 = 10.62 % (answer)
cycle turning points. The coincident indicators are: (1) the number of
employees on nonagricultural payrolls, (2) industrial production, (3) real
personal income (after subtracting transfer payments), and (4) real
manufacturing and trade sales.
Lagging Economic Indicators: This is a group of seven measures that
generally indicate business cycle peaks and troughs three to twelve
months after they actually occur. The lagging indicators are: (1) labor
cost per unit of output in manufacturing, (2) the average prime interest
rate, (3) the amount of outstanding commercial and industrial debt, (4)
the Consumer Price Index for services, (5) consumer credit as a fraction
of personal income, (6) the average duration of unemployment, and (7)
the ratio of inventories to sales for manufacturing and trade.
Handy Composites
The individual indicators are useful in their own right, but when combined
as composite measures, they provide even greater insight into the
business cycle activity. The ten separate leading economic indicators are
combined into a handy composite index of leading economic indicators.
So too are the four coincident and seven lagging indicators combined
into handy composite indicators.
How They Track
The exhibit to the right can be used to illustrate each of the three sets of
business cycle indicators individually and how they relate to the official
tracking of business cycle peaks and troughs.
First, take note of the somewhat jagged red line displayed in the exhibit.
It provides a hypothetical tracking of real gross domestic product over
several months. Two peaks are evident, labeled with P. One trough is
displayed as well, marked by T.
A composite for any of the three groups of indicators can be
displayed by clicking the corresponding [Leading], [Coincident],
and [Lagging] buttons. Or to display all three simultaneously,
click the [All] button.
Leading: A click of the [Leading] button reveals a thin blue line that
rises and falls a few months before real GDP rises and falls, thus
anticipating the peaks and troughs of the business cycle. In effect,
this blue leading indicator line parallels movements of the red real GDP
line, but it does so earlier.
Valuable Information
Tracking business cycle activity, especially peak and trough turning
points, can be quite useful. At the very least, this information can help
anticipate and possibly avoid the problems of unemployment
and inflationthat tend to arise during specific business cycle phases.
If, for example, Dan Dreiling works in an industry that tends to
suffer high rates of unemployment during contractions, then identifying
business cycle peaks that mark the onset of contractions can help him
prepare for an upcoming layoff. He might want to postpone
expenditures, add a little extra into his savings account, or even search
for other employment.
Alternatively, if Winston Smythe Kennsington III has a great deal
offinancial wealth that could be reduced by inflation, then identifying
business cycle troughs that mark the onset of expansions can also
provide valuable information. Knowing that an expansion is about to
begin, he might want to rearrange his investment portfolio, transferring
his financial wealth between stocks, bonds, and assorted bank accounts.
While individuals can personally benefit from business cycle
indicators, this information is perhaps even more useful to
government policy makers (especially the President, Congress,
and Chairman of the Federal Reserve System). Because the
public has entrusted these folks with the responsibility of
solving economic problems and guiding the country to
prosperity, they MUST stay informed about business cycle
activity. NOT staying informed is just the sort of thing that can
transform a President into an EX-President or an elected
politician into a lobbyist.
Working Together
Of the three sets of indicators, leading indicators tend to get the most
notoriety. The reason is probably obvious--by virtue of forecasting
coming events. All three, however, have important roles to play in
tracking business cycles.
On the Horizon: Leading indicators "predict" what the economy will
be doing a few months down the road. In contrast, coincident indicators
document what the economy is currently doing and lagging indicators
reinforce what happened to the economy a few months back. Knowing
what WILL happen is almost always more important that knowing what
IS happening or what DID happen already.
However, while leading indicators TEND to predict business
cycles, they are not always correct. In fact, leading indicators
have actually predicted "12 of the last 9 contractions." In other
words, they predicted 3 contractions that never happened.
The Here and Now: While leading indicators might predict
business cycles, it is nice to document the actual event, which is the role
of coincident indicators. Having accurate information about CURRENT
economic conditions is not as easy as it might seem. Collecting,
processing, and analyzing data takes time
Over and Done: At this point there might be some question about
the usefulness of lagging indicators. Of what good is knowing the state
of the economy several months AFTER the fact? In the wacky world of
economic number crunching, lagging indicators actually have a useful
role. In particular, lagging indicators are needed to "finalize" the most
recent contraction. Lagging indicators must mark the trough of the
previous contraction before leading indicators can signal the peak of the
current expansion and the beginning of the next contraction. In other
words, the next recession cannot start until the lagging indicators
indicate that the last one is over.
approaches you may look at putting actively managed funds inside tax
sheltered accounts like IRAs, while using a passive approach or a taxmanaged fund for non-retirement accounts.
Misunderstandings About Active vs Passive
Most of the time the active vs. passive debate is focused around
whether a mutual fund can outperform its index. For example, studies
may look at how many large cap funds outperform the S&P 500 Index.
However, many funds and investment approaches are not restricted to a
type of stock or bond. For example multi-cap funds may be able to own
large or small cap stocks depending on what the research analysts think
might offer the best performance. In this case you might measure the
long term results of such a fund against something like Vanguard's Total
Stock Market Index Fund. Additional confusion comes from the fact that
Investment advisors may use passive index funds, but use a tactical
asset allocation approach to decide when the portfolio should own more
or less of a particular asset class. In this way passive funds are being
used within an active or semi-active approach.
Passive Investing Best for Most
I believe most investors are better off following a passive investment
approach. If you are not the do-it-yourself type, then work with an
investment advisor who uses passive funds. If you find you have the
time to do your own research and you enjoy spending hours a day at the
computer working on your portfolio, than a more active approach might
work.