Australian Securities Exchange and Interest Rates Essay

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Australian Securities Exchange and Interest Rates

The Australian Stock Exchange (ASX) and the Australian Stock Exchange Index (ASX 200) comprise a heavily traded securities, debentures, derivatives, and FOREX market that has grown precipitously over the past decade. Additionally, the monetary policy of the Australian Federal Reserve has facilitated economic policy in favor of growing its companies represented within the ASX 200 index.

The truth is that all central planners adjust rates for their most elite global and domestic businesses due to the sensitivity these businesses have to the cost of borrowing and servicing debt. Additionally, interest rates spur inflationary concerns, which cause the price of raw materials and natural resources to rise. The demand for interest rate sensitive securities, derivatives, and natural resources also increases, which may further cause the increase of interest rates.

The research into the correlation between interest rates, the stock price of SUN, and the stock price of CSL reveal there is a positive correlation between interest rate movements and the stock prices of SUN and CSL. However, this is an overall measure. The data contains instances where there is a negative correlation. As interest rates decline, stock prices rise. This micro trend in the data suggests that once rates reach the asymptote, or the marginal decrease causes demand in the market and yields equity growth.

Introduction

The ASX is the Australian Market exchange that trades all listed Australian companies domiciled in Australia. The ASX is the 7th largest foreign exchange market (FOREX) in the world in terms of currency trading, and interestingly, home of the 5th most traded currency as well as the 4th most traded currency pair, the AUD and the AUD/USD, respectively Given the global growth and the transfer of wealth from western nations to the east, the rise in the ASX FOREX is not surprising, yet it is impressive. [1: http://www.asxgroup.com.au/the-australian-market.htm]

The ASX also incorporates the debenture, or bond market, which is the 4th largest debenture exchange within the Asian Pacific Rim. The equities or stock market is the 8th largest in the world with the metric of outstanding market capitalization. The market capitalization is A$1.3 trillion with A$5 trillion traded in the secondary market. (ASX Group, 2011) The ASX has developed into a player within the world-wide market exchange and has enabled Australia to become a choice for companies to flourish.

According to the ASX Group, "Spurred by its political and economic position, Australia has become an attractive investment destination for global investors as well as home to many major multinational financial services providers. With a diverse investor group comprised of 40% foreign investors, 40% domestic institutional investors and 20% retail investors, the Australian equity market is well placed in the global economy." (ASX Group, 2011)

According to the ASX Group, "Australia's steady economic growth has also been aided by a resources boom that has seen its economy emerge as one of the largest global suppliers of raw materials (coal, iron ore, etc.). This fertile resources sector makes up around 7.5% of Australia's total economy, with the remainder being comprised of financial services (10.8%, manufacturing (9.3%) and construction (7.8%). This distribution broadly mirrors that of the Australian equity market, with the largest sectors being financial services (35%) and resources (23%). (ASX Group, 2011)

Growth of the ASX is a function of its global interrelationships between its largest trading partners including the United States, Japan, and China. These trading relationships with strong and established economies netted a real economic growth rate of return for Australia of 3.0% over the most recent decade. Among the companies represented within the ASX, the growth of Australia's mining sector has substantially increased the natural resources and mining companies licensed in Australia.

The ASX 200 is an index of 200 stocks that is a sample of the total population of companies within the ASX 200. The sample isn't random, however, as these are the most stable 200 companies within the ASX and so represent the proverbial, 'pick of the litter'. As mentioned previously, Australia has been propelled by its booming mining industry and the index has gained in value from such companies as BHP Billton and other natural resources companies (Wall Street Journal, 2007).

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Investopedia provides two alternative definitions for the ASX 200 Index. The first definition asks What Does ASX 200 Index mean? According to Investopedia, "The ASX 200 benchmark stock index for the Australian markets. It was created for the sake of investment managers who held Australian securities and needed a sufficiently large and liquid portfolio with which they could compare their investment performance. The index trades on the Australian Stock Exchange under the symbol XJO." (Investopedia, 2011)

The second definition is an explanation of what the ASX 200 Index is. According to Investopedia, "The ASX 200 Index is comprised of the ASX 100 index plus another 100 stocks. ASX mini futures 200 contracts are also based on this index. There is also an ETF that owns and tracks this index, along with futures contracts that trade with the index as their basis." (Investopedia, 2011)

Australian interest rates are rates set by the Australian Central Bank Governor, currently Glenn Stevens (Heath, 2011). These interest rates affect the amount of AUD in float out in the economy. The fiat currency or the AUD is the paper money that is exchanged in basic cash for good/service transactions. The interest rate is set higher to increase savings, to remove fiat from the float or lower interest rates to have the opposite effect. (Gray, Smith, 2008)

Interest rates have an interesting effect on the ASX and the ASX 200 in that as mining companies are a major compilation in the aggregate, a higher rate will make it less desirable to hire more staff for more outstanding exploration and wild catting. However, the maintenance of current operations and the investment into alternative investment vehicles are the advantage to higher rates as one just has to make the correct move into FOREX. The AUD/USD pairing is an example of one economy's rather tightening monetary policy vs. The other's looser, laissez-faire approach of low rates.

The expense of borrowing money increases as interest rates increase. Rates increase by basis points (Financial Times, 2007). This is true of the Australian interest rate and of all other global macro interest rates. A 100 basis point increase is really a .100 basis point increase and will raise the currency interest rate from an example of 2% to 3%. Economies expand and contract based on very minor movements in the interest rate (Diggle, Brooks, 2005). When the cost of borrowing increases, the idea is individuals will save more than spend. This increase in saving will decrease the velocity of spending in the economy and therefore lower inflation, but will also cool the economy from the spending that is occurring.

According to Asia Money (1997), "The correlation between Australian and U.S. bond yields has continued to rise over the past six months and we expect this trend to continue. At the same time, the factors mentioned above suggest that the 10-year spread could trade below 100 bp for the first half of 1997, with a target of 80bp if underlying inflation falls below 2%." (Asia Money, 1997)

Series 1 = Interest Rates Series 2 = SUN Cl Pr Series 3 = CSL Cl Pr

Series 1 = Interest Rates Series 2 = SUN Cl Pr Series 3 = CSL Cl Pr

Conclusion

The correlation coefficient of the interest rates over the range of data is .2859. This is a positive correlation but not a very strong, positive correlation. (Garee, 1997) Expect a value beyond .5 to have a more significant value. There was a negative correlation in the data between interest rates and the value of SUN stock. This is to say that as interest rates went either up/down, the market price of the SUN stock reacted inversely but perhaps not proportionately. This is to mean that a .10 basis point movement would create perhaps up to a 10% move.

Interest rates high a high of 7.25% over the range of data and had a low point of 3%. The range of interest rate movement is somewhat significant given the low band range of possible interest rate values on the universal scale. The stock price of SUN high a high of $20.23. There is a positive correlation between the.....

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