how does stock market work

Macroeconomic Factors

Two main factors are considered macroeconomic: the government policies and the environment in which a company operates.

How does stock market impact of government policy?

The decisions, which governments take and the general direction, in which government policy move, have significant impact on the capital market. One example of a government action, which is affecting capital markets, is an imposition of taxes on a particular sector of the local economy. Such a decision usually is directly reflected in the prices of company’s shares. Government policies, however, do not always affect the prices of stocks in such an obvious way. For example, a devaluation of the domestic currency will lift the shares of exporting companies as their profits will probably rise in the near future. Furthermore, a decision of the government to increase its expenditures in a particular field, will positively affect the companies, operating in that same field. If, for example, the state budget dedicated to infrastructure rises, the profits of construction companies is also likely to rise. Governments’ wage and price policies also affect the prices of stocks. For example, if the government chooses to fix the minimum wage at a lower level, it effectively reduces the operating costs of labor-intensive companies, increasing their profitability. On the other hand, any decision that imposes a floor or a ceiling on the price of goods leads to reallocation of benefits from businesses to consumers and vice versa, which in turn affects the prices at which companies are trading in the stock exchange.

How does stock market impact of the environment,in which the company operates?

The environment, in which the company operates, has a great impact on its profitability, which in turn affects the company’s price on the stock market. For example, if analysts expect the construction sector to enter in the contraction phase of the business cycle, we might conclude that the profitability of construction companies will decline and their prices on the stock market will fall. Conversely, if we expect the inflow of tourists in a particular country to increase, we might conclude that companies, offering accommodation and leisure activities will benefit and their share prices will rise. The industry, in which a company operates, also affects its stock price. Some industries, such as oil exploration, are highly dependent on the discovery of new oil fields, which makes the companies operating in them rather risky. The food industry, on the other hand, is rather stable with demand for the produced goods remaining stable throughout the business cycle, which makes the food producing companies a safer investment. The riskier the industry, in which the company is doing business, the more volatile its price is. Of course, the industry analysis of a particular corporation is only the first step of the investment process. Within the industry the different companies have different backgrounds and potential investors should perform additional examination of the separate company’s fundamentals. Moreover, if the whole industry is going through a difficult time different companies might be affected in a different way. As a rule, large companies have more resources to get them through tough periods, while smaller ones are usually driven to the brink of their existence. If the industry is growing, however, smaller companies usually are quicker in their response to the changing conditions, which makes them the biggest winners. These are general claims, which should be taken into account, but should not be relied on too often and without care.

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