Fundamentals
Economic indicators are valuable and reliable reports assembled by the
government, universities, and private-sector businesses. They measure the
economic health of the overall economy. Most are monthly reports but some
are weekly. Generally, the market as a whole and traders in particular
listen very carefully to economic results to determine whether they are "net
buyers" or "net sellers" for the day. Whenever a report is released, you
need to be aware of the time and the information given. It can dramatically
change price direction, depending on how the market interprets it.
There are many different indicators. Below are some of the most common ones
used by traders. You must understand that not all indicators are equally
important. You must learn about all of them, observe reactions to them, and
then form an opinion on which ones help you in your specific style of
trading. And to make it even more interesting, their importance changes with
time and market perception.
Consumer Price Index (CPI)
The Consumer Price Index is a measurement of the cost of living as
determined by the U.S. Bureau of Labor Statistics. The CPI is a widely
followed inflation indicator. It compares relative price changes over time
for a fixed basket of goods and services used by consumers. The CPI has the
potential to overstate inflation because it does not adjust for the
substitution of goods and the rapidly changing prices of new technology.
Release schedule: monthly, around the 13th at 8:30 a.m. EST.
Producer Price Index (PPI)
The Producer Price Index measures the average change over time of wholesale
prices received by domestic producers for their output. This index has
several components: commodity, industry sector, and stage of processing. The
U.S. Bureau of Labor Statistics produces the PPI. Release schedule: monthly,
around the 11th at 8:30 a.m. EST.
Gross Domestic Product (GDP)
The Gross Domestic Product provides the total value of goods and services
produced within the borders of the United States. Real GDP is the most
comprehensive measure of U.S. economic activity. The change in output is
measured in real
terms (inflation has been removed). The U.S. Department of Commerce, Bureau
of Economic Analysis releases this information. Release schedule: quarterly,
during the third or fourth week of the month following the previous quarter
at 8:30 a.m. EST.
M2 Money Supply
This is a measure of the United States' supply of money, including M1
(currency in circulation, demand deposits, non-blank traveller's checks, and
other checking deposits) plus money market funds, savings accounts,
overnight euro dollars, and time deposits under $100,000. The Board of
Governors of the Federal Research System provides this information. Release
schedule: weekly and monthly.
Employment Reports
The employment reports are the most timely and broad indicators of economic
activity. They provide results for two separate sectors. A household survey
generates an unemployment rate and a business survey determines non-farm
payrolls, average work week, and average hourly earnings figures. The U.S.
Department of Labor, Bureau of Labor Statistics provides these reports.
Release schedule: first Friday of the month at 8:30 a.m. EST.
Institute of Supply Management (ISM)
The Institute of Supply Management provides the results of a national survey
of purchasing managers that includes data on items such as new orders,
production, employment, inventories, prices, import orders, and delivery
times. A reading above 50 percent indicates expansion and below 50 percent,
contraction. This particular report now contains two sections. The first
reports on goods and raw materials and the second reports on the purchases
of services. Release schedule: first business day of the month for the prior
month at 10:00 a.m. EST.
The following measurement tools will help you evaluate a company and
determine the value of its stock.
Price-Earnings Ratio
The price-earnings ratio is the most popular measure. It consists of finding
a company in which the price-earnings (P/E) ratio is low when compared to
similar companies. To find the price-earnings ratio, divide the stock's
current price by its earnings per share:
Price-earnings Ratio = Current Stock Prices/Earnings per Share
Therefore, if a stock is selling for $35 now and its earnings last year were
$7.00 per share, the P/E ratio would be 5 ($35 Ö $7.00 = 5). This means that
for every $1.00 the stock earns, investors are currently willing to pay
$5.00. However, investors also pay for future earnings. If the same $35
stock is expected to earn $9.00 per share next year, then the P/E ratio
would be 3.89 ($35 Ö $9.00 = 3.89).
The idea is to find stocks with a significantly lower P/E ratio than other
stocks in their sector. The P/E ratio cannot always be calculated if the
company suffers a loss or breaks even, as there would be no earnings to
compute. Expectations of popular stocks can be so high that they may sell
for prices way above the market value.
Cash Flow
Cash flow is an important measure of a business for investors because it is
a way of determining a company's ability to pay dividends and more.
Generally, cash flow is defined as the net income of a business plus
depreciation and the value of other non-cash assets.
Companies must have cash to keep going. They need money to pay for all the
goods and services they use, as well as making capital improvements and
paying operating costs (wages, raw materials, gas for company cars,
electricity, etc.). Companies with a high-level debt have to pay a
significant amount in interest to service that debt. If an opportunity
suddenly appears, perhaps to buy a strategically located piece of land or
another firm that would help the business, cash-poor companies may not have
the money to make the deal.
Most important, perhaps, is that during hard times, a company with a cash
cushion is likely to have a higher probability of making it through.
Companies that have enough cash to survive the down periods are in a good
position to make clearheaded judgments and keep their enterprise afloat.
Price-Earnings-
The price-earning-
while taking into account earnings growth. The calculation is as follows:
PEG Ratio = Price/Earnings Ratio
Annual EPS Growth
PEG is a widely used indicator of a stock's potential value. Many consider
it to be a stock's potential value. It is favoured over the price-earnings
ratio because it also accounts for growth.
Keep in mind that the numbers used are projections so they can be less
accurate. Also, there are many variations when using earnings from different
time-periods (for example, one year versus five years). Be sure you know the
exact definition your source is using.
Beta
Beta is a measure of a stock's relative price volatility to the S&P 500. For
example, a beta of 1 indicates that for every one-point move in the S&P 500,
the stock would move 1.0. A beta of 1.5 indicates that a one-point move in
the S&P 500 would move your stock 1.5.
Book-to-Bill Ratio
The book-to-bill ratio describes the technology industry's demand to supply,
or the number of orders on a firm's "book" compared to the number of orders
filled.
This ratio measures whether the company has more orders than it can deliver
(greater than 1), the same number of orders that it can deliver (equals 1),
or fewer orders than it can deliver (below 1). This monthly figure is used
frequently for companies in the technology and chip (semiconductor) sector.
Price-to-Book Ratio
The price-to-book ratio is used to compare a stock's market value to its
book value. It is calculated by dividing the current closing price of the
stock by the latest quarter's book value. (Book value is simply assets minus
liabilities)
A lower price-to-book ratio could mean that the stock is undervalued. It
could also mean that something is fundamentally wrong with the company. As
with most ratios, however, be aware that it varies considerably by industry.
This ratio also gives some idea of whether you are paying too much for the
stock, when the amount that would remain if the company went bankrupt
immediately is considered. This is also known as the price-equity ratio.
Regards,
Regards
Puja Singh
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