Of all the traditional investment types, Stocks and Corporate Bonds are among the most widely used. Fluctuations and other factors create a global economic impact on markets, in the present economic scenario.

In order to make sound investment decisions, it is useful to understand these fundamental economic indicators and their impacts on these traditional forms of investment.

Link between Economic Variables and Financial Markets

The financial markets and the macro economy are pretty intertwined in a way. GDP growth, inflation rates, employment, consumer expenditure, and industrial output serve as cardinal signposts and provide impressions of the overall health of a particular country’s economy.

The movements of these indicators are often mirrored in the performance of corporate bonds and equities. It also gets its value from economic growth and stability while receiving its loss from economic decline. Likewise, any change in interest rates by the Reserve Bank of India (RBI) will affect the bond market value if there is a change in the monetary policy.

The stock market, which is one of the most important economic supports, plays a major role in the growth of business and industry that is greatly affecting the overall health of the country’s economy.

Market participants use the information on the economic indicators in order to analyse the stock prices and their further trends. Some people also watch the market indices in order to find out how the economy is faring.

The economic factors in stock trading, are usually correlated in the sense that they tend to rise and fall together. If the GDP increases and the economy continues to grow, stock market values will likely follow the trend over the long-term horizon.

But news events and policy reports that are not likely to affect the macroeconomic fundamentals of a country tend to elicit over-reaction in the financial markets (up or down).

What is the Stock Market?

This is the market for stocks, shares and other securities where these securities are bought and sold. It is a component of the free economy and the investors make an economic gain through capital appreciation, and contributes to the economy.

Market risks are involved but with them, the returns are higher than the other investment instruments available in the market. But one can invest in a portfolio and ensure that the risk taken is not very high so as to avoid such a loss. It is only logical to study the factors that influence the share market.

Factors Influencing Stock Exchange Prices: The Economic Aspects

Here are the key economic factors that affect Stock prices summarised in an infographic, followed by their descriptions:

Economic Influences That Affect Stocks

• Supply And Demand: Supply and demand is also one of the most significant factors that influence the share market and causes the fluctuation in the price of stocks to rise or drop.
• GDP Growth: A healthy economy with strong fundamentals such as robust GDP growth numbers, drive business revenues and investors’ confidence, leading to the improvement of the indices and stock prices.
• Interest Rates: Interest rates affect the cost of borrowing money and spending and there is an effect on stock since its price reflects the overall market. market performance.
• Consumer Spending: Consumer spending increases the demand of stocks as it increases the price of stocks and generally in sectors such as FMCG, automobile, travel and hospitality, etc.
• Corporate Earnings: The movement of a stock depends on various factors, including the news from the company it represents, like the earnings report.
• RBI’s Policies: The Monetary policies that are introduced by the RBI have a large impact on the stock market. An accommodative stand with low interest rates, and injection of funds into the monetary supply can help in increasing investor confidence and hence increase on stock prices.
• Political Factors: In fact, there exists a myriad of political factors that forex market influences stock markets. For instance, the price of stocks falls in situations such as the risk of war, weak government, public uprising against the government, and many others.
• Natural Calamities: This is evident through natural calamities and pandemics like floods, earth quakes and in the recent past the COVID-19 pandemic which can significantly reduce the value of stocks.
• Inflation: Inflation impacts people’s financial ability, causing their ability to invest to decrease. High inflation rates dampen the spirit of investment by people hence making companies incur losses.

Market Speculation and Trading Activity

The actions of traders and speculators influence market dynamics. High levels of buying or selling activity, often driven by speculation, can lead to short-term price fluctuations. This speculative behaviour can be fuelled by news, rumours, or technical analysis.

Currency Exchange Rates

For companies with international operations, fluctuations in currency exchange rates can impact financial performance and, subsequently, stock prices. Changes in exchange rates can affect the competitiveness of exports and imports, influencing overall company revenues and profitability.

Political And Regulatory Factors

Political events, government policies, and regulatory changes can significantly influence share prices. Elections, changes in leadership, or alterations to regulatory frameworks can create uncertainty and volatility in the stock market as investors assess the potential impact on businesses and industries.

Industry Trends and Sector Performance

It is important to note that various industries and sectors experience fluctuations in performance, which in turn affects share prices. Events like technological innovation, new regulation or change in consumer trends may alter the future of companies in a specific industry and hence affect stock prices.

Market Sentiment and News

News plays a significant role in the decision making of investors and their sentiments are inclined towards positive as well as negative. Share prices can also be influenced by market-sensitive information involving new product introduction, mergers, acquisitions, or other political events.

Economic Variables Influencing Corporate Bond Yield

Here are the key bond market trends that affect Corporate Bond prices summarised in an infographic, followed by their descriptions:

• Interest Rates: Interest rates for corporate bonds and the costs are determined by the policies of RBI and are inversely proportional with interest rates. For any given increase in the rates, the bond prices are lower, and for any given decline in the rates, the bond prices are higher.
• Credit Rating: When a bond is issued by a company, their credit rating determines the prices of the bonds. These bonds have lower yields than high yield bonds but are considered less risky.
• Economic Outlook: It is noteworthy that the level of risk implied by corporate bonds depends on the state of the economy as a whole. During a period of economic instability, the prices of bonds might increase because investors shift towards buying safer bonds.

Global Economic Factors and Its Effect on Asset Prices

Equities and corporate bonds are also influenced by worldwide economic trends in the global market.

• Trade Relations: Disputes in international trade between large economic blocs can shrink corporate earnings and disrupt supply chains, impacting equities and corporate bonds. For instance, the war between Russia and Ukraine led to scarcity of gas and semiconductors to some industries which impacted on the supply side and consequently the demand side.
• Commodity Prices: Changes in commodity prices can affect profitability by contracting industries’ margins and stock performance for the industries dependent on these commodities.
• Global Interest Rates: Changes in the global interest rate can impact local interest rates, which can impact corporate bond yields and funds flow in the equity market.

Role of Economic Analysis in Investment Decision Making

• Risk Management: Economic analysis helps in assessing the probable risks that may be associated with an investment. Insights on how economic conditions influence assets help in improving risk management.
• Investment Timing: Market indicators provide relevant data about the business cycle to help investors plan when to invest and disinvest in stocks and bonds.
• Asset Allocation: Studying the current economic environment aids and assists the investor in the decision-making process of investing in different asset classes.
• Diversification: Evaluating economic factors conducive to the performance of different assets is crucial to diversification and management of risks and returns.

Conclusion

In the case of equities and corporate bonds, economic factors largely influence the performance of these securities. To make a proper analysis of the economic factors having an impact on stocks and corporate bonds, one must have a clear understanding of the economic context in the country.

In decision making, investors have to consider several factors such as GDP rates, interest rates, earning of companies, credit rating, inflation and general market conditions.

Many variables influence the stock market, including interest rates. Hence, it is advisable to take into account the factors that determine the movement of stock markets and diversify the investments made.