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Pool table. Estrella and Mishkin in their research explored how to use the financial assets and their prices for the prediction of future recession of U. The authors of the research have identified the spread of the yield curve of government bonds and the stock market indexes as very useful tools, which together represent a very reliable and simple model to predict the state of the economy.
Chauvet research shows that there is a correlation between fluctuations in the stock market and business cycles. Murphy , in contrast to Stovall , in his book divides business cycle into 4 phases: full recession, early recovery, full recovery, early recession, and identifies four factors that can help to determine at what stage is the economy at the moment. These factors include consumer expectations, industrial production, interest rates and yield curve.
Unlike Stovall , Murphy removes such factors as inflation in order to determine the phase of the business cycle. Table 3. Phases and factors of business cycle Murphy, Figure 1 represents the model of sector rotation according to the phase of the business cycle.
Figure 1. A visual presentation of sector rotation depending on business cycle phase Murphy, Despite the differences in Stovall and Murphy approaches related to business cycle phases and used factors for business cycle phase determination, there is an agreement about the sequence and priority of sectors. It is necessary to emphasize, that in empirical studies Stangl et al. Quite interesting seems the research by Conover et al. In their research they focused on the monetary policy of the Federal Reserve and applied the classification of sectors as cyclical and non-cyclical.
Conover et al. They used U. In studies Conover et al.
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Federal Reserve monetary politics are leading indicator for the sector rotation in portfolio. Empirical studies show that soft monetary policy favours stock of cyclical sectors, and tight monetary policy leads to better results of stock of non-cyclical sectors. The investment strategy based on sector rotation with usage of signals from the U. In this case the standard deviation of this portfolio is lower than the standard deviation of the market. In the studies Conover et al. Table 4. Division of sectors to cyclical and noncyclical Conover et al.
Bernanke and Kuttner investigated the effect of monetary policy on stock returns. The results showed to such sectors as energy and utility that changes in monetary policy have little effect to. Quite sensitive appeared to be high-tech sector and telecommunications.
This also confirms that there is relationship between cyclic recurrence of sectors and monetary policy Conover et al. Stangl et al. As an assumption, they modelled the situation, where investor ideally predicts all phases of the business cycle. Regarding to the choice of sector, they relied on Stovall approach. The results showed that on average, this strategy is superior to the market by 2. However, added transaction costs, using the superiority of a strategy based on the sector rotation, would be even less and would be 1. As empirical researches show, the sector rotation strategy is able to generate returns above the market average.
Regarding to the choice of sector, they relied on Stovall approach. The results showed that on average, this strategy is superior to the market by 2.
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However, added transaction costs, using the superiority of a strategy based on the sector rotation, would be even less and would be 1. As empirical researches show, the sector rotation strategy is able to generate returns above the market average. These findings give reasons to believe that investors, who use fundamental approach, can be using the investment strategy that is based on the sector rotation.
The positive correlation between stock markets between countries allows to make an assumption that the actions of the fundamental investors in developed markets will be the signal for fundamental investors in emerging markets. Signals will be sent through the valuation multiples. The received signals by fundamental investors from emerging markets will be broadcasted as a reassessment of economic sectors in emerging markets. In this way, the growth of sectors in developed markets will contribute to the growth of similar sectors in emerging markets and vice versa, the fall of sectors in developed markets will contribute to the fall of the same sectors in emerging markets.
Figure 2. Suggested model. Hypothesis that sector rotation of big foreign investors in developed markets can influence financial assets in emerging markets. However, in long term period the dynamics of different economy sectors will determine the dynamics of similar sectors of developing economies.
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So the investment decisions of large investors from developed markets, who profess the fundamental approach in the choice of sectors of the economy as an object of investment, have a positive impact on investment attractiveness of the sectors in emerging markets. Graphically it could look like as it is represented in Figure 2. Consequently, the real investments with priority will go to those sectors that are attractive in the stock market.
In this way, the rebalancing of investing portfolio from developed countries will have an impact on business cycles in developing countries.
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This means that if there is an assumption that business cycles originally do not coincide and were developed independently, so the opening of financial markets by developing countries has led to interference into autonomous development of the business cycle of these countries. As for the Russian market, in my opinion, the empirical testing of this approach on the Russian stock market may be of interest to Russian investment managers. Due to the fact that there is a correlation between the developed and emerging markets, I have made a hypothesis that sector rotation in the portfolios of the major foreign investors may influence the value of financial assets in emerging markets and thus affect the business cycles of developing economies.
My further study will focus on empirical testing of the hypothesis mentioned above. Home About ScholarArticles. Date: 05 Apr Keywords: business cycle , investment strategy , sector rotation. Comment: 0. Sector rotation. Sam Stovall study results Stovall, Empirical researches, conducted by Estrella and Mishkin , as well as by Chauvet confirm the relationship between business cycles and stock market. A visual presentation of sector rotation depending on business cycle phase Murphy, Despite the differences in Stovall and Murphy approaches related to business cycle phases and used factors for business cycle phase determination, there is an agreement about the sequence and priority of sectors.