Buffett (1992): Short-term market forecasts are poison and worthless.

Short-term market forecasts are poison and worthless. Over the long-run, share prices have to follow growth in earnings and anything more could result in a sharp correction.




Warren Buffett's 1992 letter to shareholders discussed his thoughts on issuing shares. Let us see what other nuggets he has to offer.

We have for long been a supporter of making long-term forecasts with respect to investing and we are glad that we are in extremely good company. For even the master thinks likewise and this is what he has to say on the issue.

"We've long felt that the only value of stock forecasters is to make fortunetellers look good. Even now, Charlie and I continue to believe that short-term market forecasts are poison and should be kept locked up in a safe place, away from children and also from grown-ups who behave in the market like children. However, it is clear that stocks cannot forever overperform their underlying businesses, as they have so dramatically done for some time, and that fact makes us quite confident of our forecast that the rewards from investing in stocks over the next decade will be significantly smaller than they were in the last. "

The above lines were most likely written by the master in the early days of 1993, a year which was bang in the middle of the best ever 17 year period in the US stock market history i.e. the years between 1981 and 1998. However, this period did not coincide with a similar growth in the US economy. Infact, the best ever stretch for the US economy was a 17-year stretch, which started around 17 year before 1981 and ended exactly in 1981. Courtesy this economic buoyancy and the subsequent lowering of interest rates, the corporate profits started looking up and they too enjoyed one of their best runs ever. Thus, a period of buoyant GDP growth was followed by a period of strong corporate profit growth, which in turn led to increase in share prices. However, share prices grew the fastest because they not only had to grow in line with the corporate profits but also had to play catch up to the economic growth that was witnessed between 1964 and 1981.

Another extremely important factor that led to a more than 10 fold jump in index levels in the period under discussion had psychological origins rather than economic. Investors have an uncanny knack of projecting the present scenario far into the future. And it is this very habit that made them believe that stock prices would continue to rise at the same pace. However, nothing could be further from the truth. Over the long-run, share prices have to follow growth in earnings and anything more could result in a sharp correction. Thus, while the share prices can play catch up to economic growth and corporate profits and hence can grow faster than the two for some amount of time, expecting the same to continue forever, could be a recipe for disaster. And even the master concurs.

We believe similar events are playing themselves out in the Indian stock markets with investors expecting every stock to turn out to be a multi bagger in no time. But as discussed above, this could turn out to be a proposition, which is full of risk of a permanent capital loss. Investors could do very well to remember that over the long-term share prices would follow earnings, which in turn would follow the macroeconomic GDP and this could be a very reasonable assumption to make.

http://www.equitymaster.com/detail.asp?date=12/13/2007&story=3

****What causes stock prices to move?

What causes stock prices to move?
Published: 2009/03/25

Knowing the answer to this will enable you to buy and sell at the right time.

STOCK investing is perhaps the most talked about form of investing. Stocks create hype because they are volatile and sensitive to various factors. With the current economic landscape and dismal performance of bourses worldwide, we can observe that stock prices are affected on a much larger scale than usual. So, if you are wondering what makes stock prices go up or down, read on to find out.

Knowing the answer to this will enable you to buy and sell at the right time. Unfortunately, there is no one definite answer to this simple question. Various factors influence stock price movements. However, certain primary factors have a major impact on the movement and as an investor, you need to pay attention to these factors as guidance in making the right call to "buy" or "sell".

Demand and Supply

This golden rule of economics holds true even when it comes to the stock market. When demand for stocks is greater than supply, stock prices will go up. This happens when everyone starts to chase after stocks but only very few are willing to sell. This in turn, pushes the prices of stocks up further. On the flip side, when supply is greater than demand, everyone rushes to sell off their stocks, but only a few buyers are interested. This results in stock prices being depressed.

Bearing this in mind, you then need to know what causes the demand or supply to go up or down.

* Economic situation

* Economic situation
Stock market performance is actually a leading indicator of our economic situation. This means that the stock market will reflect the market expectations of our economy a few months down the line. As such, if the market expects the economy to boom, you will start to see stock prices increasing much earlier than the actual boom and the opposite applies when recession hits. Bearing this in mind, as investors, you need to be sensitive to signs that provide any form of indication on the future direction of the economy.

For example, when inflation rate creeps up; there is a possibility that the interest rate will go up as well to help cool the economy. The stock market in turn, will react negatively given such an expectation. On the other hand, when the economy is at the bottom of its cycle and the interest rate is lowered to stimulate economic activity, you will see that stock market will react positively to it. This positive reaction is attributed to the expectation that the economy is on the road to recovery.

* Company performance

* Company performance
Logically, the stock price of a company should go up if its financial performance is good, and vice versa. However, you will notice that most of the time, when the financial results are announced, as long as they reflect analysts' expectations, regardless of whether the reports bear good or bad news, stock prices will usually not show much movement. It is only when the results come as a surprise to the market that you will see a blip in the price. Basically, this is because the existing stock prices already reflect the current market expectation. This tells you that you need to pay attention to the company's business fundamentals, as this is the critical factor that is going to influence the company's stock price in the long run. As an investor, you should be mindful of the company's business direction and projects that it is involved in, that have the potential of bringing growth to the business. You have keep a watchful eye on its financial performance and management's strength, in order to make a good investment decision.

* Market rumours

* Market rumours
This is a major contributor to the stock market's short term volatility. There is a famous saying in the stock market, 'buy on rumours, sell on facts'. Investors tend to over-react or react hastily to the slightest market rumours. Often times, they will panic and rush to sell on negative rumours, resulting in the drop of the stock price. Investors could take the opportunity to buy at that particular time if they know that the company is fundamentally strong and the likelihood of the negative rumours being accurate is low; or the situation is not as bad as it is made out to be. By carefully scrutinising market rumours, you are able to make sound investment decisions instead of just following the crowd, that could lead to dire consequences.

* Political instability

* Political instability
Naturally, if a country is experiencing political unrest, the stock market will inevitably have to deal with some setbacks. In cases of instability, foreign investors react by pulling out their funds which may trigger panic selling from all parties. You will need to assess whether the unrest is just a short-term event or carries with it a longer lasting impact. This is crucial in assessing your risk should you choose to continue holding on to your position, as opposed to taking quick action to leave the market.

The above are only a few major drivers that will cause the stock prices to move. However, most of the time, the investor psychology effect of over reacting makes market movement more prominent than it should be. One of Benjamin Graham's investing principles encourages us to look at market fluctuations as our friend rather than our enemy, as market movements sometime create buying opportunities for true investors. Therefore, as an informed and knowledgeable investor, avoid getting into "panic mode". Always remember, understand and evaluate the situation by using your own judgement to ensure that you make intelligent investment decisions.


This article was written by Securities Industry Development Corporation to educate investors on smart investing. The information provided in this article is for educational purposes only and should not be used as a substitute for legal or other professional advice.

Securities Industry Development Corporation, the leading capital markets education, training and information resource provider in Asean, is the training and development arm of the Securities Commission, Malaysia. It was established in 1994 and incorporated in 2007.

http://www.btimes.com.my/Current_News/BTIMES/articles/SIDC8/Article/index_html

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Why Do Companies Care About Their Stock Prices?

Why Do Companies Care About Their Stock Prices?
by Investopedia Staff, (Investopedia.com) (Contact Author Biography)

Here's the irony of the situation: companies live and die by their stock price, yet for the most part they don't actively participate in trading their stocks within the market. Companies receive money from the securities market only when they first sell a security to the public in the primary market, which is commonly referred to as an initial public offering (IPO). In the subsequent trading of these shares on the secondary market (what most refer to as "the stock market"), it is the regular investors buying and selling the stock who benefit from any appreciation in stock price. Fluctuating prices are translated into gains or losses for these investors as they shift ownership of stock. Individual traders receive the full capital gain or loss after transaction costs.

The original company that issues the stock does not participate in any profits or losses resulting from these transactions because this company has no vested monetary interest. This is what confuses many people.

Why then does a company, or more specifically its management, care about a stock's performance in the secondary market when this company has already received its money in the IPO? Read on to find out.

Those in Management are Often Shareholders Too
The first and most obvious reason why those in management care about the stock market is that they typically have a monetary interest in the company. It's not unusual for the founder of a public company to own a significant number the outstanding shares, and it's also not unusual for the management of a company to have salary incentives or stock options tied to the company's stock prices. For these two reasons, management acts as stockholders and thus pay attention to their stock price.

Wrath of the Shareholders
Too often investors forget that stock means ownership. The job of management is to produce gains for the shareholders. Although a manager has little or no control of share price in the short run, poor stock performance could, over the long run, be attributed to mismanagement of the company. If the stock price consistently underperforms the shareholders' expectations, the shareholders are going to be unhappy with the management and look for changes. In extreme cases shareholders can band together and try to oust current management in a proxy fight. To what extent shareholders can control management is debatable. Nevertheless, executives must always factor in the desires of shareholders since these shareholders are part owners of the company.

Financing
Another main role of the stock market is to act as a barometer for financial health. Analysts are constantly scrutinizing companies and reflecting this information onto its traded securities. Because of this, creditors tend to look favorably upon companies whose shares are performing strongly. This preferential treatment is in part due to the tie between a company's earnings and its share price. Over the long term, strong earnings are a good indication that the company will be able to meet debt requirements. As a result, the company will receive cheaper financing through a lower interest rate, which in turn increases the amount of value returned from a capital project.

Alternatively, favorable market performance is useful for a company seeking additional equity financing. If there is demand, a company can always sell more shares to the public to raise money. Essentially this is like printing money, and it isn't bad for the company as long as it doesn't dilute its existing share base too much, in which case issuing more shares can have horrible consequences for existing shareholders.

The Hunters and the Hunted
Unlike private companies, publicly traded companies stand vulnerable to takeover by another company if they allow their share price to decline substantially. This exposure is a result of the nature of ownership in the company. Private companies are usually managed by the owners themselves, and the shares are closely held. If private owners don't want to sell, the company cannot be taken over. Publicly-traded companies, on the other hand, have shares distributed over a large base of owners who can easily sell at any time. To accumulate shares for the purpose of takeover, potential bidders are better able to make offers to shareholders when they are trading at lower prices.

For this reason, companies would want their stock price to remain relatively stable, so that they remain strong and deter interested corporations from taking them.On the other side of the takeover equation, a company with a hot stock has a great advantage when looking to buy other companies. Instead of having to buy with cash, a company will simply issue more shares to fund the takeover. In strong markets this is extremely common - so much that a strong stock price is a matter of survival in competitive industries.

Ego
Finally, a company may aim to increase share simply to increase their prestige and exposure to the public. Managers are human too, and like anybody they are always thinking ahead to their next job. The larger the market capitalization of a company, the more analyst coverage the company will receive. Essentially, analyst coverage is a form of free publicity advertising and allows both senior managers and the company itself to introduce themselves to a wider audience.

For these reasons, a company's stock price is a matter of concern. If performance of their stock is ignored, the life of the company and its management may be threatened with adverse consequences, such as the unhappiness of individual investors and future difficulties in raising capital.

by Investopedia Staff, (Contact Author Biography)Investopedia.com believes that individuals can excel at managing their financial affairs. As such, we strive to provide free educational content and tools to empower individual investors, including thousands of original and objective articles and tutorials on a wide variety of financial topics.

http://www.investopedia.com/articles/basics/03/020703.asp?partner=NTU2