The Macro and Microeconomics of Trading the Capital Markets

When looking at stock prices, analysts evaluate both the macro environment, which includes growth in the country, inflation as well as consumer demand. Analysts also exam in detail the microeconomics, which consists of the revenue the company generates, as well as earnings and future guidance.

By evaluating the macroeconomic and microeconomics of trading, an analyst will have a gauge of the supply and demand for that asset and be able to estimate the future value of a security. In this article, we delve further into how micro and macroeconomics determine stock prices starting with an explanation of what these two terms and their role in the trading of capital markets.

Microeconomics

Microeconomics is the study of the behaviour of individuals and firms decisions in their narrowly-defined markets, as well as the impact of economic policies. For example, a change in tax rate or new regulations may increase or decrease production and change the price and volume of sales. There are many models in this study, including:

Microeconomics Models

Some of the models utilised in the study of business and individuals include:

• Supply and Demand
• Market Structure
• Game Theory

Macroeconomics

Macroeconomics is defined as a field of economics that evaluates the performance, and behavior of an economy as a whole.

Macroeconomics generally deals with the overall economy and focuses on specific indicators that provide economists with a view of how a nationwide or statewide economy will perform. Some of the more common indicators that are used to evaluate the macroeconomic performance are Gross Domestic Product, inflation and job growth.

Macroeconomics Models

The models are aggregates of the same models used in microeconomics. For example:

• AD-AS model
• IS-LM model
• Growth models including neoclassical growth theory and it’s challenger the endogenous growth theory

The Macro Economics of Trading

Depending on the asset you are trading, each one will have different macro and microeconomics that drive the future value.

The theory behind macroeconomics as it relates to the capital markets is different for the different capital market securities that are traded. For example, when growth is increasing in tandem with inflation, bond prices are generally falling, but equity prices and commodities are rising.

Rising inflation will increase the yields within a country and will generally buoy a currency. The stronger the yields, the more attractive a currency becomes relative to its peers.

The Microeconomics of Trading

The microeconomics of trading refers to the performance of specific companies and how changes can affect an asset. This asset could be a company or even a commodity. For example, the lacklustre performance of a gold miner could affect how the company performs as well as the volume of gold that is available.

The way that analysts evaluate the microeconomics of a public company is to sift through their financial information. Most public companies throughout the world provide investors with financial information that describe their earnings, revenues, cash flows and operating income. These metrics provide a backdrop for investors to determine company value, plus overall specific sector performance.

If the financial results of a large company in a specific sector not only provides microeconomic information about the company, but it also includes information about the industry. The revenues inform on sales and consumer demand, and it’s also an indicator of the costs that are either generating headwinds or tailwinds for the company.

Key Takeaway

Macro and microeconomics are vital factors that help determine the value of an asset that is traded in the capital markets. Macroeconomics helps evaluate the performance of an economy. Microeconomics is the study of individuals and firms in making decisions in narrowly-defined markets.

By evaluating both the macroeconomic and microeconomics of trading, an analyst with a firm, specialising in Index Funds Canada will gauge the supply and demand for an asset and be able to estimate the future value of a security. It’s important to remember that changes to both macroeconomic and microeconomics will affect each security differently.