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Financial institutions or fund management companies often engage analysts or investment experts to carry out intensive analysis to achieve better returns for their investment portfolios. Economic and sectoral analysis form part and parcel of their analysis to ensure effective investment decisions and greater returns.

For a fund manager, picking up stocks from a total of more than 550 counters in the local stock market is certainly not an easy task. Most fund managers conduct some fundamental analysis in attempting to identify stocks with attractive values.

Just how important is economic and sectoral analysis in selecting individual stocks for your investment portfolio? Normandy Research believes that both are important for effective stocks valuation.

Economic analysis is important as stock markets generally tend to perform better in periods of economic upturn. There is a positive relationship between good economic performance and strong stock prices. Fund managers are more likely to invest in markets which show economic progress or positive fundamentals.

Determine the outlook for the domestic economy by analysing important economic variables such as interest rates cycle and inflation. Stock analysts in a fundamental-driven market are constantly looking for signs of inflation. Any increase in inflation is likely to be detrimental to stock investments. Rising inflation means rising interest rates which will likely depress stock prices.

Inflation tends to peak when the economy grows too strongly or have reached its peak. An extremely strong-growing economy will likely cause "overheating" problems and drive away investors from the stock market. Low interest rate environment usually occur when the economy slows to the extent that it has touched the bottom or is in the troughs.

But, slowing economy will also dampen stock prices as investors are likely to express concerns about issues such as lower corporate earnings and dividends.

In general, see whether the economic condition is favourable or unfavourable for stocks. Here "stocks" referred to are fundamental-driven issues such as blue chips or fundamentally sound stocks in the main board and not highly-speculative issues in the Second Board.

On the other hand, in analysing the prospects for a particular business sector, analysts will normally ask questions concerning the overall health of the sector like: Is the company in the birth, growth, maturity or declining phase of the industry? Is the industry subject to any new regulations imposed by the government? Are industry production costs rising more slowly or rapidly than the domestic inflation rate?

 

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