FUNDAMENTAL ANALYSIS

INVESTMENT ANALYSIS COURSE

Fundamental vs. Technical

• Fundamental = Qualitative analysis of a company’s fundamental drivers driven by factual numbers and industry analysis

• Technical = Quantitative (Charts) The quantitative performance of a company’s security

WHAT IS FUNDAMENTAL ANALYSIS?

• Fundamental analysis is the examination of the underlying forces that affect the well being of the economy, industry groups, and companies.

• The most common way that fundamental analysis is done in is in three steps:

fundamental analysis is done in is in three steps

1. Economic Analysis:-• The first step to this type of analysis includes

looking at the macroeconomic situation. • GDP• growth rates• Inflation• interest rates• exchange rates,• productivity • energy prices.

• Analyze the state of the world economy• Pick certain asset classes that will outperform

others• Pick geographic locations• Narrow to industry analysis

2. Industry Analysis

• The SECOND step taken in FUNDAMENTAL analysis is looking at the industry as a whole.

• INDUSTRY ANALYSIS LOOKS AT a)total sales b)price levelsc) competition and their effectsd)Foreign competition e)any entrances or exits from the industry

3. Company Analysis:-

• Last in this process of studying the fundamentals includes looking at the company individually

• This includes looking ata) unit salesb) pricesc) new productsd) earnings and e)Any chance of debt or equity occurring

Economic analysis • The economy is like the tide and the various

industry groups and individual companies are like boats

• When the economy expands, most industry groups and companies benefit and grow.

• When the economy declines, most sectors and companies usually suffer

• Many economists link economic expansion and contraction to the level of interest rates.

• Interest rates are seen as a leading indicator for the stock market as well.

GROSS NATIONAL PRODUCT (GDP)

• GDP is one of the core indicators of the current condition of a country's economy.

• It measures the monetary value of all final goods and services produced over a specified period (one year) within the boundaries of a country.

• Gross Domestic Product (GDP) is the broadest measure of economic activity; however it is only released quarterly

GROSS NATIONAL PRODUCT (GNP)

The broad components of GDP are:a) consumptionb) Investmentc) net exportsd) government purchasese) and inventories.

PERSONAL CONSUMPTION

• Personal consumption expenditures (PCE) represent roughly 2/3 of GDP. By monitoring retail sales, policy makers are able to make an assessment of the likely growth of PCE for the current and future quarters.

INFLATION• Is a general increase in prices in an economy and

consequent fall in the purchasing power of money.

• Economists distinguish between two types of inflation.

a) Demand-pull inflation arises when the economy is trying to spend beyond its capacity to produce.

b)Cost-push inflation is driven by increases in nominal wages and in the prices of non-wage inputs such as raw materials and energy.

INTEREST RATES

• If there is an uncertainty in the market in terms of interest rates

• then any developments regarding interest rates will usually have a direct and immediate effect on the currency market.

• Generally, when a country raises its interest rates, it’s currency will strengthen in relation to other currencies around the world

INTEREST RATES

• WHEN INTEREST RATES ARE HIGHER global assets will be shifted internationally by their owners to gain a higher return on their investments

• Interest rate hikes are usually not good news for a nation’s internal stock markets because many investors within the country will withdraw money from a country's stock market to take advantage of the higher / more secure rate of return.

Consumer Price Index (CPI)

• CPI IS An index designed to measure the change in price of a fixed market basket of goods and services.

• The market basket of goods and services is representative of the purchases of a typical urban consumer.

• The index is intended to measure pure price change only; attempts are made to remove changes in price resulting from changes in quality.

CONSUMER PRICE INDEX

• The rate of change of the CPI is one of the key measures of inflation for the U.S. economy.

• Acceleration or deceleration of inflation may signal that a change in monetary policy may be appropriate

Industrial Production/Capacity Utilization INDEX

• An index designed to measure changes in the level of output in the industrial sector of the economy.

• The index is grouped by both products (consumer goods, business equipment, intermediate goods, and materials) and industry (manufacturing, mining, and utilities

Industrial Production/Capacity Utilization

• The industrial sector of the economy represents only about 20% of GDP, because changes in GDP are heavily concentrated in the industrial sector, changes in this index provide

a) useful information on the current growth of GDP.

b)information on the overall level of resource utilization in the economy which may in turn provide information on the likely future course of inflation.

c) Greater utilization will tend to increase inflation

Business Sales and Inventories

• Total current-dollar sales and inventories for the manufacturing, wholesale, and retail sectors of the economy

• The rate of inventory accumulation plays a key rolea) in determining the current pace of economic growthb) provides useful clues about the future pace of growth as well.c) For example,i. if inventories are accumulating at a rapid pace, such that inventory

sales ratios are rising, ii. it may portend a slowing of growth in the near future as firms cut

production to bring inventories back into line with sales. iii. Vice versa, if inventories are growing slowly or actually falling, it

may signal a future pickup in production.

S&P 500 Stock Index

• S&p 500 is one of several indices designed to measure changes in price of a broad array of stocks.

• The stock market is one measure of the current value of the nation's stock of capital and is often viewed as a barometer of business and consumer confidence regarding the future.

• A high and/or rising stock market may signal robust growth of business investment and consumer spending in the near future

• while a low and/or falling stock market may signal sluggish spending. For this reason, the S&P 500 is 1 component of the Index of Leading Indicators.

EMPLOYMENT

• The unemployment rate represents the percentage of employable individuals who are actively looking for work within the county.

• Unemployment has been a persistent problem in industrial economies during economic slowdowns over the last 200 years and is therefore used as a primary indicator of the health of an economy.

• In most cases, statistics are based on the number of people claiming unemployment benefits. A certain level of unemployment is considered to be unavoidable due to

(1) structural changes in an economy (2) workers who are voluntary switching jobs. This unavoidable level of unemployment is called the natural level of

unemployment.

INTERNATIONAL TRADE

• The trade balance portrays the net difference (over a period of time) between the imports and exports of a nation.

• When a nation imports more than it exports, the trade balance shows a deficit.

• Although this is for the most part considered unfavorable, a deficit in and of itself is not necessarily a bad thing.

GLOBAL ECONOMIC ANALYSIS

• OVER VIEW

• Growth in the WORLD economy has resumed after the most virulent recession in decades.

• Recession caused by world financial meltdown triggered by the subprime loan problem

World economic recovery continued

• The recovery is driven by i. exceptionally strong demand-supporting policy

measuresii. public interventions in financial marketsiii.a strong pick-up in demand in the THE

INDUSTRIAL WORLD iv. a positive contribution from inventory

adjustment

World economic recovery

• unemployment is set to continue to rise well into 2010 and to fall only modestly in 2011 from its peak of over 9%

Table 1.1. A modest recovery from widespread recession OECD area, unless noted otherwise

Average 2009 2010 2011 1997-2006 2007 2008 2009 2010 2011 q4 q4 q4

Per cent

Real GDP growth¹ 2.8 2.7 0.6 -3.5 1.9 2.5 -1.0 2.1 2.8 United States 3.2 2.1 0.4 -2.5 2.5 2.8 -0.3 2.5 3.0 Euro Area 2.3 2.7 0.5 -4.0 0.9 1.7 -2.1 1.2 2.0 Japan 1.1 2.3 -0.7 -5.3 1.8 2.0 -1.1 1.4 2.2Output gap² 0.1 1.8 0.3 -4.6 -4.1 -3.2Unemployment rate³ 6.5 5.6 5.9 8.2 9.0 8.8 8.8 9.1 8.6Inflation⁴ 3.0 2.3 3.2 0.5 1.3 1.2 0.7 1.2 1.2Fiscal balance⁵ -2.0 -1.3 -3.5 -8.2 -8.3 -7.6Memorandum itemsWorld trade growth 7.1 7.3 3.0 -12.5 6.0 7.7World real GDP growth⁶ 3.8 4.6 2.2 -1.7 3.4 3.7

1. Year-on-year increase; last three columns show the increase over a year earlier.2. Per cent of potential GDP. 3. Per cent of labor force. 4. Private consumption deflator. Year-on-year increase; last 3 columns show the increase over a year earlier5. Per cent of GDP. 6. OECD countries plus Brazil, Russia, India and China only, representing 81% of world GDP purchasing power parities. Fixed weights

based on 2005 GDP and purchasing power paritiesSource: OECD Economic Outlook 86 database

World economic out look

• Upward and downward risks are broadly balanced

• The uncertainty surrounding this projection is very high, but the risks are broadly balanced

• Financial conditions could continue to improve faster and more extensively than assumed, setting in motion a positive feedback loop:

Upward and downward risks are broadly balanced

• better economic prospects and stronger business investment driven by better financial conditions reducing concerns about the health of financial institutions

• in turn improving financial conditions, and thereby growth, still further.

• On the other hand, financial conditions could worsen abruptly, for example, if a large financial institution were to get into difficulty

UNEMPLOYMENT

• Unemployment also represents a negative risk to the outlook.

• as its continued increase may depress household expenditure and negatively affect financial institutions to a greater extent than anticipated.

Economic policy requirements are…

• Monetary policy. Given continued slack, close-to-zero interest rates are appropriate in most OECD countries until the latter half of 2010 and in Japan to beyond the projection period

• scale back monetary policy stimulus as the recovery progresses…

• the process of normalization of interest rates must start thereafter and progress at a pace which will depend inter alia on the withdrawal of other demand-supporting measures

• Given low levels of inflation, policy interest rates would only need to reach neutrality by the time that upward pressures on inflation emerge.

Fiscal policy.

• Currently all western world fiscal policy is that of stimulating the economy

• policy stimulus measures already decided need to be implemented fully.

• However, as the recovery gathers strength, the focus needs to shift from supporting aggregate demand to consolidating budgets.

Financial policy

• In order to reduce uncertainty, and thus facilitate recapitalization.

• pressure must be maintained on banks to write down the value of problem assets on their balance sheets .

• to sell such assets to public or private asset management companies

Structural policy.

• As the recovery progresses, crisis-driven emergency measures of subsidizing production (e.g. in the auto industry) or subsidizing jobs (e.g. short time working schemes) need to be scaled back

• as their continuation would undermine the productive capacity of the economy

Zambian economy

• ZAMBIA• Area: 752,614 sq km• Population Estimate: 12.1 mn• Independence: 1964• GDP: US $14,757.6 mn: 2008• GDP per Capita: US $1,22

Developments in Real GDP up 2009

• Economy has experienced strong growth averaging at least 5.9% over the last five years and 6.2% over the last three years

• Growth driven by the private sector supported by sound economic policies.

• Economy benefited from favourable external sector developments:

i. Debt relief in 2006 ii. And High copper prices until the Q3 of 2008.

Table 1: Major Macroeconomic Indicators, 2004-2009 2004 2005 2006 2007 2008 2009*Real GDP growth (%) 5.4 5.3 6.4 6.2 6.0 6.3GDP per capita (US $) 515.1 654.9 908.1 1,024.1 1,229.8 902.2Inflation end-period (%) 17.5 15.9 8.2 8.9 16.6 11.5Average selling exchange rate(ZK/ US $) 4,670.94 3,454.71 4,142.75 3,845.77 3, 756.01 5,157.65Comm. banks weighted lendingbase rate (%) 29.8 27.4 21.6 18.3 20.8 23.2Comm. banks ASR (%) 5.6 6.1 6.1 4.8 4.8 4.7

II Developments in Real GDP

Zambian economy

• Despite global economic crisis, economy expected to

• grow by 6.3% in 2009 from the 6.0% in 2008.• This is due to robust growth in mining,

agriculture and construction sectors.1. Mining growing by 21.4%2.Construction by 15.5%3.Agriculture by 7.1%

Mining sector

• Mining expected to post robust growth of 13% in 2009 (2.4% in 2008) largely due to:

1. Improved copper prices;2. Conducive business environment;3. Commencement of production at Lumwana Copper Mine4.And Investments into operations at KCM, MCM and Chambishi Copper Smelter that increased production capacity

Agriculture

Agriculture - strong recovery of 5.2% in 2009 (1.2% in 2008):

1. Maize output rose to 1.8 million metric tons from 1.5million metric tons, the highest production in 10 years.

2. Notable contribution from small-scale farmers supported by the Farmer Input Support Programme and marketing services

construction

• Construction:1.Increased public & commercial infrastructure

investments;2.Continued high demand for housing; and3.Expanded domestic production of cement.

Manufacturing and tourism• However, projected slow down in manufacturing and a

contraction in tourism1. Manufacturing:• increase in the cost of imported raw materials mainly due to the depreciation of the Kwacha (first half of the year);• decline in export demand; and• continued stiff competition from cheaper imports 2.Tourism:• Fall in the number of foreign tourists, in view of the global financial crisis.

Inflation and Monetary Developments

• Inflation declined to 11.5% in Nov. 2009 from 16.6% in Dec.2008.

• Higher inflation in 2008 due to:i. Higher international fuel and food prices ;ii. Depreciation of the Kwacha;iii. Higher transport costs; andiv. Electricity load-shedding.• Fall in inflation in 2009 due to:i. decline in food prices;ii. Relatively strengthening of exchange rate; andiii. Stability in domestic fuel prices and transport costs.• Lending rates trending downwards ( 23.1% in Oct. 2009)

External Sector Performance

• Current Account deficit projected to narrow to US $483.9 mn in 2009 (US $1,049.5 mn in 2008);

• Metal exports projected to increase by 9.6% (As at Oct 2009: 557,750mt (Oct 2008: 463,280.52 mt);

• Gross International Reserves of US $1,887.1 mn on 30th Nov 2009 equivalent t to 5 months of import cover. (First time in last thirty-eight years)

Financial and Equity Market Performance

• Financial Sector has Remained Resilient:• Overall financial condition of the banking sector satisfactory with

adequate capital.• However, NPLs increased to12.9% at Oct 2009 (Dec. 2008: 7.2%)• Five new commercial banks granted licenses in 2009 to operate.1. First National Bank Zambia Ltd2. United Bank for Africa Zambia Ltd3. Ecobank Zambia Ltd4. International Commercial Bank Zambia Ltd5. Access Bank Zambia Ltd6. Performance of NBFI sector also satisfactory• Performance of LuSE All-share index showing recovery

2010 and Medium Term Economic Outlook

• Inflation projected to fall to single digit levels;• The economy to continue growing above

6.0%;• Interest rates are expected to continue

trending downwards;• Satisfactory liquidity as more forex flows in

due to the• increase in earnings from the NTEs and mining

sector revenues