Welcome to FInance and Fury, the Furious Friday Edition.
Following the series of the Lucky Country – You don’t need to have listened to the last few FF eps for this one – rare event – but will be talking about a few related factors, like GDP growth, Interest Rates, Housing – all in relation to the share market –
Today – episode will be looking at how the share market is related to all of these factors
- Help focus on how to create a rising share market – as it has become more volatile over time, and growth has slowed
What factors affect the share market? – Millions
- Due to the nature of a market -built up of millions of people – so millions of factors, between 10s of thousands of companies, between millions of people – why markets are almost impossible to predict day to day –
First – let’s start with What is the ASX – Australian Securities Exchange
- 2,319 listed companies, $2.21trn market cap, the average company is worth $1bn (just shy)
What factors affect the market?
Interest rate – What are the flow on effects – from the announcements and policy decision
1. Movements in the cash rate are quickly passed through to other capital market interest rates
2. such as money market rates and bond yields – influenced by the risk tolerance of investors and preferences for holding funds in a form that are readily redeemable
3. then feed through to the whole structure of deposit and lending rates.
- Share valuation – use risk-free assets – Gov 10y bond yields – but as they drop – the risk premium in relations to shares goes down –2. so the cost of equity declines, so does a company’s weighted average cost of capital – so the returns for the share market don’t have to be as large to compete with investors’ money –3. then – the companies themselves don’t need to compete that much either – things become easier – as the returns they need to provide decline – so innovation goes out the window –
- just solidify market share and sink into GDP like returns over the long term – going to break down the top 20 companies over the past few years –
This got me thinking
Why did a fall in share prices lead to a collapse of GDP back in 1929 but not 2008?
- Confidence – people who are invested in markets (those with larger consumption capacity) stop spending
- Housing – peoples wealth is in housing as well – most Australian wealth is in housing on average
- 2018 Australia became the country with the largest median wealth per adult – thanks to housing
- This build confidence – when we feel rich, people act rich – investing or spending more – boost to economy
Looking back in history
Share Markets and GDP are very very related
- A countries GDP was close to their share market capitalisation
- Today – Globalisation = Global GDP to Global share market capitalisation (valuations)
- Free movement of capital + companies are able to list anywhere in the world (as long as meet requirements)
- A lot of companies chose to leave based around listing restrictions/confidence- reason Alibaba (bigger than amazon technically, thanks to dominating China market) listed in USA, not many people trust Shanghai exchange
Growth of GDP with Market cap
The differences in them – does it provide a sign?
- What Is the Stock Market Capitalization-to-GDP Ratio? – The stock market capitalization-to-GDP ratio is a ratio used to determine whether an overall market is undervalued or overvalued compared to a historical average. The ratio can be used to focus on specific markets, such as the U.S. market, or it can be applied to the global market, depending on what values are used in the calculation. It is calculated simply as stock market cap divided by gross domestic product.
- Typically, a result that is greater than 100% is said to show that the market is overvalued, while a value of around 50%, which is near the historical average for the U.S. market, is said to show undervaluation. If the valuation ratio falls between 50 and 75%, the market can be said to be modestly undervalued.
- Also, the market may be fair valued if the ratio falls between 75 and 90%, and modestly overvalued if it falls within the range of 90 and 115%. In recent years, however, determining what percentage level is accurate in showing undervaluation and overvaluation has been hotly debated, given that the ratio has been trending higher over a long period of time.
- The market cap to global GDP ratio can also be calculated instead of the ratio for a specific market. The World Bank releases data annually on the Stock Market Capitalization to GDP for World which was 55.2% at the end of 2015.
- This market cap to GDP ratio is impacted by trends in initial public offerings (IPOs) and the percentage of companies that are publicly traded compared to those that are private. All else being equal, if there was a large increase in the percentage of companies that are public vs. private, the market cap to GDP ratio would go up, even though nothing has changed from a valuation perspective.
Where are we now?
Where is Aus At – 115%
Where is US at – 141% – one of most innovated market – valued at expected
Switzerland – 248%
Australia is fairly unique – concentration –
ASX300 vs ASX20 – breakdown over 10 years
- Growth (excluding dividends)
ASX20 – 48% gain – 4.4% annualised
ASX300 – 58% gain – 5.2% annualised
- Dividends –
ASX20 – 6.26%, ASX300 – 4.2%
- PE – reflects the price to earnings – shows the price based on people expectations for future cashflow (large=big FCF)
ASX20 – 17.96, ASX300 – 16.29
- Summary – Top 20 are Cash cows – don’t get much growth, but have better dividends –
Top 20 have limited growth potential – but the lower market caps – rely on new companies listing
Requires innovation and entrepreneurs – Human innovation always beats fear – we just need confidence in the system
How to create a rising share market
- More companies = more market goes up
- Better companies are doing (in value add) – more market goes up
Need policies to help AUS market increase number of companies doing well –
- Low taxes, low regulations, highly competitive in the global economy
- Low barrier to entry
- Cultural as well – innovation and number of small companies being started – and allowed to grow
- A nation of problem solvers – nobody starts a company unless for two reasons
- Think they can offer product or service at a lower price (while at profit), or
- Think they can offer a better good/service – something market isn’t doing already
- A nation of problem solvers – nobody starts a company unless for two reasons
A lot of the ASX gains are from new businesses – the value gain comes from the bottom of the market –
– but when weighted by market cap –the cash cows provide the largest returns from dividend – due to concentration from the top – these have a large weight on the success of our market
Distortion in the market – returns look the same, but most of it comes from cash returns to investors – not at growth
Isn’t anything wrong with this – as long as you reinvest the funds.
Have ASX listings gone down in line with ASX average returns
What’s the criteria for listing on the ASX? – IPO process
The minimum admission criteria require a company to meet three things:
- Number of Shareholders – minimum of 300 non-affiliated investors at $2,000 AUD each.
- Free Float – 20% or greater of the company is on offer
- Company Size – The company must meet one of three criteria:
- $1m AUD aggregated profit from continuing operations over past 3 years + A$500,000 consolidated profit from continuing operations over the last 12 months.
- $4m AUD net tangible assets
- $15m AUD market capitalisation
Need innovation not easy credit
Just helps existing business when lending is increased –
How can we avoid going into a Recession? Are we making the same mistakes? Is a recession inevitable due to making the same mistakes?
Tax cuts help markets – companies want to operate in the zone that has lowest rates of tax, plus provides more confidence to investors
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