Quiz : Special Topic 4 Great Debates in Economics: Keynes Versus Hayek
The stock market is the market for corporate shares. Investment in shares is subject to market risks. However, if held over long period of time, a diverse portfolio stock yields higher rate of return with low variation in return as it spread the stock among many investments. Thus, for a person saving for his/her retirement a diverse portfolio stock or a mutual fund will be a less risky option with higher return. There are two types of mutual fund: managed equity mutual fund that is managed by a group of professionals and index equity mutual fund which invest according to their share in broad stock market index and thus have low processing fees. If someone have $50000 and want to invest it in order to secure their retirement life in thirty years, the most preferable option will be investing in index mutual fund. This is because, for particularly long term investment mutual funds are profitable. Again the index mutual fund has low processing fees and hence has minimum cost. Therefore, the best plan that will provide high return at relatively low risk is the index mutual fund.
The value of a stock depends on three factors: the expected future earnings, the maturity date and the present discount rate. The present discount rate depends on the market interest rate. The higher the interest rate the lower will be the value of future income and vice versa. If R is the annual revenue stream and i is the interest rate then the present value of the future income stream is given by On the other hand, when future income from a stock will be higher the value of the stock will be higher. Hence, when the interest rate is low, the value of a stock will be high. The real interest rate is the inflation rate plus the nominal interest rate. If monetary policy leads to higher inflation and nominal interest rate, then the real interest rate will also be high. A higher real interest implies that the value of stocks will be low. Hence, if the monetary policy leads to higher nominal interest rate and inflation rate, the value of stock price is likely to fall.
The stock market is the market for corporate shares. Investment in shares is subject to market risks. The value of a stock depends on three factors: the expected future earnings, the maturity date and the present discount rate. The price of a stock follows the random walk theory. According to the random walk theory current stock prices will reflect all the current information including the future earning of the company. If some company has higher future profit prospect, the price of the stock will be relatively higher. People will be willing to buy such a stock in spite of its higher price because it has a higher earning prospect and has potential to provide the stockholder a higher profit income. Thus, even if Company M never paid the dividend people still buy its stock because it ensures a higher future income for its buyer.