Why Does the Stock Market Move up and Down? Part -3



In previous article, very strong proof will be given to show that Over the long run (three years or longer), stock prices are almost wholly dependent on the growth of their underlying earnings and dividend. Let us accept for the moment the validity of this statement. However, a question would arise from the acceptance of this statement. I shin “tempt here to answer this vital question in the rest of this article.The question is:
If long-term stock price changes are dependent on earnings tr dividend growth, what determines the latter’s growth rate s ?


Based on research carried out over very long periods of time (50 years and more) In the US and locally over a shorter period we now have an answer to the above question. It is now fairly clear that the earnings and dividend of the corporate sector increases at about the same rate as the increase in the nominal GNP of the country. The increase in earnings and dividend in turn draws up the price of shares in the market.


It is obvious that the nominal GNP of the country is a powerful determinant of the stock market level. But what do we mean by the nominal GNP of a country? The GNP is the measure of the total income of all the people in the country. This income can be measured in real or nominal terms. If it is measured in real terms, the computed GNP at current prices figure would be reduced by a percentage which is equal to the decline in the purchasing power of the currency of the country which has been caused by inflation. On the other hand, if it is measured in nominal terms, the GNP at current prices figure is not adjusted. For example, if a country’s current price GNP has gone “P from $20 billion to $40 billion, it can be said to have experienced a 100 per cent increase in nominal GNP. If, during the period, the purchasing power of its currency has declined by 33 per cent, its real GNP would have gone up only 50 per cent.
Let us now take a look at the experience of GNP growth in our two countries. From the beginning of 1970 to the end of 1987, the nominalGNP in Malaysia has increased from $10,599 million to 69,757million or an increase of just under 6.6 times. This represents an average annual increase of about 12 per cent. During the same period of time, Singapore’s nominal GNP has improved by about 13 per cent per year. Why should the GNP of the countries increase over the years? In short, there are three main reasons why the GNP of a country can increase. Inflation is the most obvious cause. Inflation leads to an increase in the nominal wealth of the country without any real gain in wealth. During this period, about 50 per cent of the increase in the nominal GNP in both countries was caused by inflation alone. The other two reasons for the increase in national income are increase in productivity and the use of new resources or the use of old resources in more productive ways. Let us examine more carefully how these three factors can lead to the long term change in a country’s GNP.



First, let us look at inflation. The history of inflation in this region has been one of long periods of price stability interspersed with periods of severe inflation. We can identify three distinct periods from the history of inflation in the last 30 years or so. Between 1960 and 1972, we experienced a period of very low inflation (1.5 per cent per year on average). The 10 years between 1973 and 1982 had been a time of very high inflation in Malaysia/Singapore. Even measured by the highly conservative Malaysian Treasury Index, the general price level of Malaysia went up by about 100 per cent during this period (about 7 per cent per year). Singapore had experienced a lower inflation rate overall (about 5 per cent) but much higher inflation in real estate prices. In specific areas, for example, housing and transportation, the inflation has been much worse (prices of houses increased by five~folds and the price of cars and motor~cycles more than tripled during this period). But since 1982, the world has been going through a disinflationary era and Malaysia/Singapore have not been exceptional in this respect. Between 1982 and 1988, the average annual rate of inflation in Malaysia/Singapore has been in the region of only 2 to 3 per cent. In certain areas which had previously experienced sharp inflation, deflation has actually taken place. This is particularly true of houses, office Space and plantation land.

Inflation can be a powerful cause of increase in corporate profit. Forty years ago, a first class hotel room in Singapore might have cost $350 a night. The rates are now 3 times or even as high or even more. We can imagine how this two-fold increase in price level has affected the profit of an older hotel company whose assets had been bought at a very much lower price than what is prevailing (e.g. Goodwood Park Hotel)‘ The inflation in land price has been even more drastic. Prime land in Singapore had gone up nearly 20 times in the last 40 years. Imagine how this inflation has affected the wealth of land-rich companies such as OCBC or Wearne Brothers. The inflation in commodity prices, partly caused by the enormous overall inflation induced by the increase in petroleum price, has contributed greatly to the increase in earnings of plantation companies.

What about the future? What sort of inflationary trend can we expect for the next ten years? A study of the economic history of the world shows that a period of high inflation is usually followed by a period of low inflation or even deflation. Indeed, the price trend of goods over the last five years (1983 to 1987) have shown all too clearly that history seems to be repeating itself. Current real estate prices, in both Malaysia and Singapore, in spite of the improvement experienced in the last two years, are still well down compared with the previous cyclical peaks. Prospects are that prices will continue to stagnate over the foreseeable future. All towns in Malaysia are suffering from a gross excess of office space. Hotel shortage in Penang and Singapore in the past has now become an enormous glut. Prices of major commodities when measured in terms of an average exchange rate have declined sharply and have stayed at relatively low level in spite of the sharp increase recorded in early 1988.


Increase in Productivity and the Use of New Resources

An increase in productivity leads to the production of a greater amount of goods from the same input. For example, over the last 40 years, the per acre output of Malaysian rubber estate has been increasing steadily at about three per cent per year. Over the long run, this had led to a huge increase in the output per acre of rubber land. Hence rubber companies have been able to get much higher revenue from the same amount of rubber land. By contrast, the rubber land in Indonesia has suffered a decline in yield and hence have not contributed much to the increase in the Indonesian GNP. New resources can also be brought into production to increase the income of the country. The best example is palm oil. Over the last 35 years or so, Malaysia has increased the quantity of palm oil produced by about three million tons. This has directly led to an increase in Malaysia’s GNP by some three billion ringgit (or about 4.3 per cent). The increase caused by thediscovery of petroleum off the East Cost of Peninsular Malaysia is even mote spectacular (about M$10 billion) though less noticeable to the laymen.

The economy of Singapore has grown greatly in similar fashion. Forty five years ago, the ship building industry of Singapore was small and labour intensive. Today, it is one of the world‘s greatest ship repair and building centres, contributing a large percentage of Singapore‘s GNP with little increase in employment. Forty years ago, Pulau Bukom was  a useless little island. Today, it is one of the gram centres of petroleum refining. In forty years, Orchard Road has developed from a sleepy street to one of the finest shopping and hotel centre the East. All those companies which had taken part in such growth either directly or indirectly would have seen a great increase in their business and earnings. This increase in earnings has led directly to the increase in their market value.

My Name is YF Boon. I've been at Investments field over 10 Years. Nowadays,There are plenty of scams online.Therefore, i am contribute a 100% Real Investments tips and Sharing all most Successful Traders experience about investing in Stock Market and Foreign Currency.

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