Macroeconomics: Introduction, Factors, Policies, Impact on Trading – Part VII

Articles From: QuantInsti
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The prior installments in this series are available here: Part IPart IIPart III Part IV, Part V and Part VI.

Macroeconomics and the Financial markets

Think about it, you are an investor looking to go long on a pharmaceutical company. During a recent budget session of the government, it was announced that the tax on pharmaceutical products will be reduced by 20%.

You know that this would lead to an increase in revenue for pharmaceutical companies. You will immediately buy the company’s shares. Other traders share this sentiment, and in a short time, the company’s stock price has increased. And at this time, there has been no change in the working of the company.

Let’s take another case, a company is in the growth phase and looking for expansion in other markets. Thanks to the reduction in the lending rate, the company gets access to credit and uses this money to establish a factory in another region. Since the company’s products are already in demand, traders know that the new factory will add revenue to the company. Thus, the company’s share price increases.

During the Trump administration, certain policies were formulated to promote manufacturing in the U.S. itself. This provided incentives to source locally made products instead of sourcing products from outside the country. This impacts the companies who are heavily reliant on  other countries and do not find good quality replacements among the local communities. However, a company can take advantage of these policies and cater to this market which did not exist before.

In contrast, certain economies formulate their policies to attract foreign investment. Earlier a closed economy, India opened its door to foreign investments with a series of reforms starting from 1991. This has led to economic progress and made access to foreign capital benefitting both the investors as well as the Indian companies. The IT sector has flourished due to these policies.

These were some examples of how macroeconomic factors can influence stock prices. It is well known that the US stock market experiences a short term jump every time the Federal Reserve reduces the interest rate. Thus, some traders actually schedule their trades on days the Federal Reserve schedules their meeting. You can learn more about these types of event based trading methods in our course on event-driven strategies.

How do you learn about macroeconomic factors further? Let’s see in the next section.

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