Year: 2020

Data Analysis can be defined as the process of reviewing and evaluating the data that is gathered from different sources.  Data cleaning is very important as this will help in eliminating the redundant information and reaching to the accurate conclusions. Data analysis is the systematic process of cleaning, inspecting and transforming data with the help of various tools and techniques. The objective of data analysis is to identify the useful information which will support the decision-making process. There are various methods for data analysis which includes data mining, data visualization and Business Intelligence. Analysis of data will help in summarizing the results through examination and interpretation of the useful information. Data analysis helps in determining the quality of data and developing the answers to the questions which are of use to the researcher.

In order to discover the solution of the problem and to reach to the specific and quality results, various statistical techniques can be applied. These techniques will help the researcher to get accurate results by drawing relationships between different variables. The statistical techniques can mainly be divided into two

A) Parametric Test

B) Non-Parametric Test

Parametric Test

Parametric statistics considers that the sample data relies on certain fixed parameters. It takes into consideration the properties of the population. It assumes that the sample data is collected from the population and population is normally distributed. There are equal chances of occurrence of all the data present in the population. The parametric test is based on various assumptions which are needed to be holding good. Various parametric tests are Analysis of Variance (ANOVA), Z test, T test, Chi Square test, Pearson’s coefficient of correlation, Regression analysis.

T- Test

T- test can be defined as the test which helps in identifying the significant level of difference in a sample mean or between the means of two samples. It is also called as a T- Distribution. The t-test is conducted when the sample size of the population is small, and variance of the population is not known. The t-test is used when the population (n) is not larger than 30. There are two types of T-Test:

1. Dependent mean T Test- It is used when same variables or groups are experimented.
2. Independent mean T Test-It is used when two different groups experimented. The two different groups have faced different conditions.

The formula for T-Test is:

Z Test

This test is used when the population is normally distributed. The sample size of the population is large or small, but the variance of the population is known. It is used for comparing the means of the population or for identifying the significance level of difference between the means of two independent samples. Z test is based on the single critical value which makes the test more convenient.

The formula for z test is:

X- Main value

µ – Sample Mean

σ – Standard Deviation

Analysis of Variance (ANOVA)

When there are two or more categorical data, then Analysis of Variance is used. Analysis of variance can be mainly of two types a) one-way ANOVA, b) Two-way ANOVA. One way ANOVA is used when the mean of three or more than three groups are compared. The variables in each group are same. Two-way ANOVA is used to discover if there is any relationship between two independent variables and dependent variables. Analysis of Variance is based on many assumptions. ANOVA assumes that there is a dependent variable which can be measured at continuous intervals. There are independent variables which are categorical, and there should be at least two categories. It also assumes that the population is normally distributed and there is no unusual element is present.

Chi Square Test

This test is also known as Pearson’s chi-square test. This test is used to find a relationship between two or more independent categorical variables. The two variables should be measured at the categorical level and should consist of two or more independent groups.

Coefficient of Correlation

Pearson’s coefficient of correlation is used to draw an association between two variables. It is denoted by ‘r’. The value of r ranges between +1 to -1. The coefficient of correlation is used to identify whether there is a positive association, negative association or no association between two variables. When the value is 0, it indicates that there is no association between two variables. When it is less than 0, it indicates a negative association, and when the value is more than 0, then it indicates a positive association.

Regression Analysis

This is used to measure the value of one variable which is based on the value of another variable. The variable whose value is predicted is the dependent variable, and the variable which is used to predict the value of another variable is called independent variable. The assumptions of regression analysis are that the variables should be measured at the continuous level and there should be a linear relationship between two variables.

Non-Parametric Tests

Non-Parametric Statistics does not take into account any assumption relating to the parameters of the population. It explains that data is ordinal and is not necessary to be normally distributed. The non-parametric test is also known as a distribution-free test. These tests are comparatively simpler than the parametric test. Various non-parametric tests include Fisher- Irwin Test, Wilcoxon Matched –Pairs Test (Signed rank test), Wilcoxon rank-sum test, Kruskal- Wallis Test, Spearman’s Rank Correlation test.

Probability theory is the foundation for statistical inference.  A probability distribution is a device for indicating the values that a random variable may have.  There are two categories of random variables.  These are discrete random variables and continuous random variables.

Discrete random variable

The probability distribution of a discrete random variable specifies all possible values of a discrete random variable along with their respective probabilities.

Examples can be

• Frequency distribution
• Probability distribution (relative frequency distribution)
• Cumulative frequency

Examples of discrete probability distributions are the binomial distribution and the Poisson distribution.

Binomial Distribution

A binomial experiment is a probability experiment with the following properties.

1. Each trial can have only two outcomes which can be considered success or failure.
2. There must be a fixed number of trials.
3. The outcomes of each trial must be independent of each other.
4. The probability of success must remain the same in each trial.

The outcomes of a binomial experiment are called a binomial distribution.

Poisson Distribution

The Poisson distribution is based on the Poisson process.  

1. The occurrences of the events are independent in an interval.
2. An infinite number of occurrences of the event are possible in the interval.
3. The probability of a single event in the interval is proportional to the length of the interval.
4. In an infinitely small portion of the interval, the probability of more than one occurrence of the event is negligible.

Continuous probability distributions

A continuous variable can assume any value within a specified interval of values assumed by the variable.  In a general case, with a large number of class intervals, the frequency polygon begins to resemble a smooth curve.

A continuous probability distribution is a probability density function.  The area under the smooth curve is equal to 1 and the frequency of occurrence of values between any two points equals the total area under the curve between the two points and the x-axis.

The Normal Distribution

The normal distribution is the most important distribution in biostatistics.  It is frequently called the Gaussian distribution.  The two parameters of the normal distribution are the mean (m) and the standard deviation (s).  The graph has a familiar bell-shaped curve.

Graph of a Normal Distribution

Characteristics of the normal distribution

1. It is symmetrical about m.
2. The mean, median and mode are all equal.
3. The total area under the curve above the x-axis is 1 square unit.  Therefore 50% is to the right of m and 50% is to the left of m.
4. Perpendiculars of:
    ± s contain about 68%; 
       ±2 s contain about 95%;
       ±3 s contain about 99.7%
   of the area under the curve.

The standard normal distribution

A normal distribution is determined by m and s.  This creates a family of distributions depending on whatever the values of m and s are.  The standard normal distribution has m =0 and s =1.

 Finding normal curve areas

1. The table gives areas between – and the value of .  
2. Find the z value in tenths in the column at left margin and locate its row.  Find the hundredths place in the appropriate column.
3. Read the value of the area (P) from the body of the table where the row and column intersect.  Note that P is the probability that a given value of z is as large as it is in its location.  Values of P are in the form of a decimal point and four places.  This constitutes a decimal percent.

Finding probabilities

We find probabilities using the table and a four-step procedure as illustrated below.

a) What is the probability that z < -1.96?

    (1) Sketch a normal curve
    (2) Draw a line for z = -1.96
    (3) Find the area in the table
    (4) The answer is the area to the left of the line P(z < -1.96) = .0250

b)  What is the probability that -1.96 < z < 1.96?

    (1) Sketch a normal curve
    (2) Draw lines for lower z = -1.96, and upper z = 1.96
    (3) Find the area in the table corresponding to each value
    (4) The answer is the area between the values–subtract lower from upper P(-1.96 < z < 1.96) = .9750 – .0250 = .9500

c)  What is the probability that z > 1.96?

    (1) Sketch a normal curve
    (2) Draw a line for z = 1.96
    (3) Find the area in the table
    (4) The answer is the area to the right of the line; found by subtracting table value from 1.0000; P(z > 1.96) =1.0000 – .9750 = .0250

Applications of the Normal distribution

The normal distribution is used as a model to study many different variables.  We can use the normal distribution to answer probability questions about random variables.  Some examples of variables that are normally distributed are human height and intelligence.

Solving normal distribution application problems

In this explanation we add an additional step.  Following the model of the normal distribution, a given value of x must be converted to a z score before it can be looked up in the z table.

(1) Write the given information
(2) Sketch a normal curve
(3) Convert x to a z score
(4) Find the appropriate value(s) in the table
(5) Complete the answer

Illustrative Example:  Total fingerprint ridge count in humans is approximately normally distributed with mean of 140 and standard deviation of 50.  Find the probability that an individual picked at random will have a ridge count less than 100.  We follow the steps to find the solution.

(1) Write the given information

m = 140
s = 50
x = 100

(3) Convert x to a z score

(4) Find the appropriate value(s) in the table

    A value of z = -0.8 gives an area of .2119 which corresponds to the probability P (z < -0.8)

(5) Complete the answer

    The probability that x is less than 100 is .2119.

In these other discipline, we can include production and its department, marketing and its department and personnel and its department. Relationship shows balanced behavior of officers of finance department and other department’s officers. They should concentrate on one target of company and many other things, they should know for creating good relation.

Relationship of finance with other discipline can be explained in following way:

(i) Finance and Accounting

The two are embedded with different disciplines. The finance is the discipline which is mainly based on the cash basis of operations but the accounting is totally governed by the accrual system.

Accounting is mainly vested with the collection and presentation of data, but the finance is closely connected with the decision making of the organization.

Till this moment, the differences are discussed only to know the role of finance over the accounting of any organization. The following is the major relationship which lies in between the finance and accounting as follows “Finance begins where accounting ends”

(ii) Relationship of Finance with Production

Production department’s main duty is to produce the goods. For producing goods, it needs raw material, labor and other expenses. For paying all expenses, production department needs money and fund which will be fulfilled by finance department. Finance department checks the budget of production department and allow funds for production department. With this view, we can understand that production department is dependent on finance department’s decision. Now, if production department performs his duty honestly and products are produced and sold on time, it will be helpful for increase sale and profitability and it will again recycle the fund with high profit in finance department. So, we can say both are dependent on each other. Both are players of business team. Both should be adopt co-operative view for each other. After this, business team can succeed in business.

(iii) Relationship of Finance with Marketing

Marketing department’s main duty is to sell maximum goods and satisfy the consumers. Its product’s input cost will decrease if all products are sold by marketers of company. For developing the product, promotion activities and distribution activities of marketing department need some money for paying salesmen, advertising budget and other promotional expenses. For this marketing department makes his marketing budget and it is cleared by finance department, but sometime finance department will not all specific marketing expenses but marketing department need that type of expenses for promotion of sales. This will create confliction. Good relations will be helpful for both departments. If both department does meeting and show behavior like good relative, the problem can easily solve. Both departments should think that both are the part of company’s organization and co-ordination between them is must. Sometime, marketing department obtains big order for supplying the goods, at that time finance department should help marketing department for arrangement of money for buying raw material and supplying fastly without any delay.

(iv) Relationship of Finance with Personnel

Personnel are that science which manages the employees of company and finance is that science which manages the money. If personnel department and finance department work together with co-operation, both departments can satisfy the objectives of company. It is the objective of company to satisfy employee by fulfilling their financial needs. It is also objective of company to reduce the misuse of fund by paying excess salary that required cost of doing work by employee. So, both department should understand each other’s objective and should help other department for fulfilling the objectives. One more thing, financial decisions are also very necessary in human resource area. Corporate are moving to the development of employees. They are human resource capital of company. Now, investment in training of employees, incentive schemes and retirement schemes etc. should be calculated like other investment and both departments should take maximum advantages from this asset.

(v) Relationship of Finance with Economics

There are two areas of economics with which the financial manager must be familiar: micro-economics and macroeconomics. Microeconomics deals with the economic decisions of individuals, households, and firms, whereas macroeconomics looks at the economy as a whole.

The typical firm is heavily influenced by the overall performance of the economy and is dependent upon the money and capital markets for investment funds. Thus, financial managers should recognize and understand how monetary policies affect the cost of funds and the availability of credit. Financial managers should also be versed in fiscal policy and how it affects the economy. What the economy can be expected to do in the future is a crucial factor in generating sales forecasts as well as other types of forecasts.

The financial manager uses microeconomics when developing decision models that are likely to lead to the most efficient and successful modes of operation within the firm. Specifically, financial managers use the microeconomic concept of setting marginal cost equal to marginal revenue when making long-term investment decisions (capital budgeting) and when managing cash, inventories, and accounts receivable (working capital management).

Business financing is just it what it sounds like: the activity of funding the many aspects of a business, whether the funding be for starting a business, running it, or expanding it. Regardless of the size or type of business, there are fundamental questions involving financing that must be addressed.

For example, most businesses purchase a variety of items, such as buildings, machinery, or office furniture and equipment that are intended to be useful for a long time. Such items are called long-term investments. Any business making long-term investments must carefully consider what those investments will be, how much they will cost, and how much they will hold their value over time. Just as important is the question of where to get the money needed to pay for them.

When a business is just starting, it typically borrows money from banks or other financial institutions, or it brings in additional individuals or institutions (that is, investors) to share ownership in the business in order to procure the initial capital it needs to cover the costs of building a new business. Capital is the term given to the money or other things of worth that are needed to produce goods or services. Capital can take the form of human beings, physical goods, or some means of financial exchange. Examples of capital are skilled labor, factories, office space, tools, machinery, and money.

When a businesses is up and running and managing the everyday financial operations, it may likewise turn to banks and investors for financing, but it typically relies on its customers for generating the money needed to finance the business. If the business is profitable and the company saves some of the money it makes from commercial activity, it may use that money to make new investments that will further expand its business. There are many different methods businesses use to acquire the financing they need to fund large projects and to improve their profitability.

Recorded instances of business financing date back to ancient times when wealthy Greeks arranged loans to shipping concerns that needed financing to transport freight. Greek lenders also funded miners and erectors of public buildings. In the Middle Ages Jewish merchants living in Italy loaned money to Christian Italian farmers. This practice established merchants in Europe as the main source of loans for farms and businesses and originated the concept of the “merchant bank.”

In 1781 the first commercial bank was established in the United States. Named the Bank of North America, it extended short-term loans to merchants who then passed them on to wholesalers of imported goods. The wholesalers, in turn, extended loans to retailers, often country stores and independent peddlers.

Another step in the development of business financing in the United States was taken in 1904, when the American banker A.P. Giannini (1870–1949; later to be nicknamed “America’s banker,”) opened the Bank of Italy in San Francisco in 1904. Immigrants who sought to borrow money to start businesses but had been turned down because they had no established wealth were supported by the Bank of Italy, which became the Bank of America in 1930. California industry and agriculture and Hollywood filmmaking were among the many interests supported by Giannini’s financing enterprise.

The Small Business Investment Act of 1958 established ways to make venture capital (funds from investors seeking to share ownership in new businesses) and long-term loans available to small, independent businesses in the United States. This program was the first to give small American businesses the financing they needed to start, maintain, and expand their operations.

Aspects of Business Financing

As businesses grow, their financing needs evolve and typically become more complex. In the case of a small business, the owner generally makes the financial decisions for the firm. In the case of a large company, the owner or owners (who in some cases are the stockholders) do not get involved in financial decisions. Instead, they hire managers who take on the financial responsibilities. In large companies, this person is known as the chief financial officer (CFO) or vice-president of finance.

The process of planning and managing the long-term investments of a business is known as capital budgeting. Usually this process involves seeking those business opportunities that will earn the company more than they will cost the company. For each type of business, these opportunities are distinct. For example, for a commercial airline the decision about whether to begin regular service to a new city would be an important capital budgeting decision. For a large discount retailer the decision about whether to introduce a new line of gardening products would be one. Other types of capital budgeting opportunities (for example, investments in computer systems or human labor) are common to almost all businesses.

When a company’s financial manager reviews a proposed capital budgeting decision, he or she must respond to several issues concerning the flow of cash associated with an investment. Primary considerations are the amount of cash the company is likely to make from an investment, when the company can collect the cash, and how high is the risk of the investment (that is, the chance of losing money in it). Basically, all capital investments must be evaluated for their size, timing, and risk. In the example of the airline’s beginning a new route, mentioned above, the financial manager must estimate how much money the company will make once the route is established, when it will earn the money, and how reliable the new market will be.

When a company makes a long-term investment, as it does when it decides to develop a new product or open a new division, it must know from where the needed money will come: from outside the company, from within the company, or some combination of the two. Long-term investments require what is called long-term financing. The financial structure (sometimes called the capital structure) of a company is the particular mix of long-term borrowing and the equity that it can use to pay for its operations and new investments. The company, for example, may have a certain amount of long-term debt incurred from borrowing money for its startup or to make new investments. The equity is the market value of the business’s property held by the owners and shareholders. Financial managers constantly weigh the levels of debt and equity. Equity allows a company to keep growing and gives it its value. Debts must be kept under control because they represent the level of financial risk a company takes upon itself; the greater its debts, the greater it risks financial instability.

The term “working capital” refers to the short-term investments a business can draw upon. A business’s short-term investments may be the inventory of goods it has produced. A business also may have short-term debts in the form of money it owes to the suppliers who provide materials to the business. The owners or the financial manager of the business must manage these short-term investments and debts of the firm on a daily basis so that the firm does not lose track of its costs, run out of ready cash, or interrupt its operations.

Recent Trends in Business Financing

An area of business finance that has grown steadily in the late twentieth and early twenty-first centuries is the practice of extending small loans to poor entrepreneurs who live in developing countries. The practice is known as microlending, and the loan is often called microcredit. The purpose of microlending is to assist individuals in creating income for themselves (for instance, by farming, weaving, or making crafts) and therefore to improve their living standards. Usually the individuals borrowing money have no existing property to use as collateral and no credit history and so would not qualify for a traditional bank loan.

Microcredit is generally issued for a short time period (one year or less), and the terms mandate that it be paid back on a weekly basis. Interest rates on the loans generally are high (in some places 40-50 percent) because costs of running the programs are high. The loan programs also generally seek to improve the education and health care of those enrolled. Microcredit is extended to women more often than men, and usually it is arranged as a community program, which cultivates responsibility to repay the loans because the whole community takes on the risk involved in improving the financial situation of its constituents.

The stock market refers to the collection of markets and exchanges where regular activities of buying, selling, and issuance of shares of publicly-held companies take place. Such financial activities are conducted through institutionalized formal exchanges or over-the-counter (OTC) marketplaces which operate under a defined set of regulations. There can be multiple stock trading venues in a country or a region which allow transactions in stocks and other forms of securities.

While both terms – stock market and stock exchange – are used interchangeably, the latter term is generally a subset of the former. If one says that she trades in the stock market, it means that she buys and sells shares/equities on one (or more) of the stock exchange(s) that are part of the overall stock market. The leading stock exchanges in the U.S. include the New York Stock Exchange (NYSE), Nasdaq, and the Chicago Board Options Exchange (CBOE). These leading national exchanges, along with several other exchanges operating in the country, form the stock market of the U.S.

In a nutshell, stock markets provide a secure and regulated environment where market participants can transact in shares and other eligible financial instruments with confidence with zero- to low-operational risk. Operating under the defined rules as stated by the regulator, the stock markets act as primary markets and as secondary markets.

As a primary market, the stock market allows companies to issue and sell their shares to the common public for the first time through the process of initial public offerings (IPO). This activity helps companies raise necessary capital from investors. It essentially means that a company divides itself into a number of shares (say, 20 million shares) and sells a part of those shares (say, 5 million shares) to common public at a price (say, $10 per share).

To facilitate this process, a company needs a marketplace where these shares can be sold. This marketplace is provided by the stock market. If everything goes as per the plans, the company will successfully sell the 5 million shares at a price of $10 per share and collect $50 million worth of funds. Investors will get the company shares which they can expect to hold for their preferred duration, in anticipation of rising in share price and any potential income in the form of dividend payments. The stock exchange acts as a facilitator for this capital raising process and receives a fee for its services from the company and its financial partners.

Following the first-time share issuance IPO exercise called the listing process, the stock exchange also serves as the trading platform that facilitates regular buying and selling of the listed shares. This constitutes the secondary market. The stock exchange earns a fee for every trade that occurs on its platform during the secondary market activity.

The stock exchange shoulders the responsibility of ensuring price transparency, liquidity, price discovery and fair dealings in such trading activities. As almost all major stock markets across the globe now operate electronically, the exchange maintains trading systems that efficiently manage the buy and sell orders from various market participants. They perform the price matching function to facilitate trade execution at a price fair to both buyers and sellers.

A listed company may also offer new, additional shares through other offerings at a later stage, like through rights issue or through follow-on offers. They may even buyback or delist their shares. The stock exchange facilitates such transactions.

The stock exchange often creates and maintains various market-level and sector-specific indicators, like the S&P 500 index or Nasdaq 100 index, which provide a measure to track the movement of the overall market. Other methods include the Stochastic Oscillator and Stochastic Momentum Index.

The stock exchanges also maintain all company news, announcements, and financial reporting, which can be usually accessed on their official websites. A stock exchange also supports various other corporate-level, transaction-related activities. For instance, profitable companies may reward investors by paying dividends which usually comes from a part of the company’s earnings. The exchange maintains all such information and may support its processing to a certain extent.

Functions of a Stock Market

A stock market primarily serves the following functions:

1. Fair Dealing in Securities Transactions

Depending on the standard rules of demand and supply, the stock exchange needs to ensure that all interested market participants have instant access to data for all buy and sell orders thereby helping in the fair and transparent pricing of securities. Additionally, it should also perform efficient matching of appropriate buy and sell orders.

For example, there may be three buyers who have placed orders for buying Microsoft shares at $100, $105 and $110, and there may be four sellers who are willing to sell Microsoft shares at $110, $112, $115 and $120. The exchange (through their computer operated automated trading systems) needs to ensure that the best buy and best sell are matched, which in this case is at $110 for the given quantity of trade.

2. Efficient Price Discovery

Stock markets need to support an efficient mechanism for price discovery, which refers to the act of deciding the proper price of a security and is usually performed by assessing market supply and demand and other factors associated with the transactions.

Say, a U.S.-based software company is trading at a price of $100 and has a market capitalization of $5 billion. A news item comes in that the EU regulator has imposed a fine of $2 billion on the company which essentially means that 40 percent of the company’s value may be wiped out. While the stock market may have imposed a trading price range of $90 and $110 on the company’s share price, it should efficiently change the permissible trading price limit to accommodate for the possible changes in the share price, else shareholders may struggle to trade at a fair price.

3. Liquidity Maintenance

While getting the number of buyers and sellers for a particular financial security are out of control for the stock market, it needs to ensure that whosoever is qualified and willing to trade gets instant access to place orders which should get executed at the fair price.

4. Security and Validity of Transactions

While more participants are important for efficient working of a market, the same market needs to ensure that all participants are verified and remain compliant with the necessary rules and regulations, leaving no room for default by any of the parties. Additionally, it should ensure that all associated entities operating in the market must also adhere to the rules, and work within the legal framework given by the regulator.

5. Support All Eligible Types of Participants

A marketplace is made by a variety of participants, which include market makers, investors, traders, speculators, and hedgers. All these participants operate in the stock market with different roles and functions. For instance, an investor may buy stocks and hold them for long term spanning many years, while a trader may enter and exit a position within seconds. A market maker provides necessary liquidity in the market, while a hedger may like to trade in derivatives for mitigating the risk involved in investments. The stock market should ensure that all such participants are able to operate seamlessly fulfilling their desired roles to ensure the market continues to operate efficiently.

6. Investor Protection

Along with wealthy and institutional investors, a very large number of small investors are also served by the stock market for their small amount of investments. These investors may have limited financial knowledge, and may not be fully aware of the pitfalls of investing in stocks and other listed instruments. The stock exchange must implement necessary measures to offer the necessary protection to such investors to shield them from financial loss and ensure customer trust.

For instance, a stock exchange may categorize stocks in various segments depending on their risk profiles and allow limited or no trading by common investors in high-risk stocks. Exchanges often impose restrictions to prevent individuals with limited income and knowledge from getting into risky bets of derivatives.

7. Balanced Regulation

Listed companies are largely regulated and their dealings are monitored by market regulators, like the Securities and Exchange Commission (SEC) of the U.S. Additionally, exchanges also mandate certain requirements – like, timely filing of quarterly financial reports and instant reporting of any relevant developments – to ensure all market participants become aware of corporate happenings. Failure to adhere to the regulations can lead to suspension of trading by the exchanges and other disciplinary measures.

Stock Market Participants

Along with long-term investors and short term traders, there are many different types of players associated with the stock market. Each has a unique role, but many of the roles are intertwined and depend on each other to make the market run effectively.

1. Stockbrokers

Stockbrokers, also known as registered representatives in the U.S., are the licensed professionals who buy and sell securities on behalf of investors. The brokers act as intermediaries between the stock exchanges and the investors by buying and selling stocks on the investors’ behalf. An account with a retail broker is needed to gain access to the markets.

2. Portfolio Managers

 Portfolio managers are professionals who invest portfolios, or collections of securities, for clients. These managers get recommendations from analysts and make the buy or sell decisions for the portfolio. Mutual fund companies, hedge funds, and pension plans use portfolio managers to make decisions and set the investment strategies for the money they hold.

3. Investment Bankers

Investment bankers represent companies in various capacities, such as private companies that want to go public via an IPO or companies that are involved in pending mergers and acquisitions. They take care of the listing process in compliance with the regulatory requirements of the stock market.

4. Custodian and depot service providers

Custodian and depot service providers, which are institution holding customers’ securities for safekeeping so as to minimize the risk of their theft or loss, also operate in sync with the exchange to transfer shares to/from the respective accounts of transacting parties based on trading on the stock market.

5. Market Maker

A market maker is a broker-dealer who facilitates the trading of shares by posting bid and ask prices along with maintaining an inventory of shares. He ensures sufficient liquidity in the market for a particular (set of) share(s), and profits from the difference between the bid and the ask price he quotes.

Stock exchanges operate as for-profit institutes and charge a fee for their services. The primary source of income for these stock exchanges are the revenues from the transaction fees that are charged for each trade carried out on its platform. Additionally, exchanges earn revenue from the listing fee charged to companies during the IPO process and other follow-on offerings.

The exchange also earns from selling market data generated on its platform like real-time data, historical data, summary data, and reference data which is vital for equity research and other uses. Many exchanges will also sell technology products, like a trading terminal and dedicated network connection to the exchange, to the interested parties for a suitable fee.

The exchange may offer privileged services like high-frequency trading to larger clients like mutual funds and asset management companies (AMC), and earn money accordingly. There are provisions for regulatory fee and registration fee for different profiles of market participants, like the market maker and broker, which form other sources of income for the stock exchanges.

The exchange also makes profits by licensing their indexes (and their methodology) which are commonly used as a benchmark for launching various products like mutual funds and ETFs by AMCs.

Many exchanges also provide courses and certification on various financial topics to industry participants and earn revenues from such subscriptions.

Competition for Stock Markets

While individual stock exchanges compete against each other to get maximum transaction volume, they are facing threat on two fronts.

1. Dark Pools

Dark pools, which are private exchanges or forums for securities trading and operate within private groups, are posing a challenge to public stock markets. Though their legal validity is subject to local regulations, they are gaining popularity as participants save big on transaction fees.

2. Blockchain Ventures

Amid rising popularity of blockchains, many crypto exchanges have emerged. Such exchanges are venues for trading cryptocurrencies and derivatives associated with that asset class. Though their popularity remains limited, they pose a threat to the traditional stock market model by automating a bulk of the work done by various stock market participants and by offering zero- to low-cost services.

Examples of Stock Markets

The first stock market in the world was the London stock exchange. It was started in a coffeehouse, where traders used to meet to exchange shares, in 1773. The first stock exchange in the United States of America was started in Philadelphia in 1790. The Buttonwood agreement, so named because it was signed under a buttonwood tree, marked the beginnings of New York’s Wall Street in 1792. The agreement was signed by 24 traders and was the first American organization of its kind to trade in securities. The traders renamed their venture as New York Stock and Exchange Board in 1817.

• Stock markets are vital components of a free-market economy because they enable democratized access to trading and exchange of capital for investors of all kinds.
• They perform several functions in markets, including efficient price discovery and efficient dealing.

Financial forecasting is the processing, estimating, or predicting how a business will perform in the future. The most common type of financial forecast is an income statement, however, in a complete financial model, all three statements are forecasted. In this guide on how to build a financial forecast, we will complete the income statement model from revenue to operating profit or EBIT.

Financial forecasting is concerned with the projection of future financial performance, condition, flows, and requirements.

It enables the firm to protest the financial feasibility of various policies and actions, it facilitates the raising of funds by enhancing the confidence of lenders in the management of the firm, it provides a basis of control and improves the utilization of resources.

Major Components of Financial Forecasting

1. Projected Income statement

The projected income statement also referred to as the profit plan or operating budget, shows the expected revenues and expenses for the budget period, usually, one year, and the net financial results of the operations.

The profit plan of the firm is based on several budgets, Sales budget, production budget, materials and purchases budget, labour cost budget, manufacturing overhead budget, and budget for non-manufacturing costs.

2. Cash budget

The cash budget reflects the cash inflows and outflows expected In the future. The major sources of cash Inflow are: Cash sales, collection of accounts receivable, disposal of assets, short-term borrowing, long-term debt and equity capital.

The important cash outflows relate to: Cash purchases, payment of accounts payable, wages, salaries, rent, interest, taxes, dividends, capital expenditures and repayment of loans and debentures. The cash budget should not include non­cash expense items like depreciation.

The projected surpluses/deficits in the cash budget provide the basis for investment (where there is a surplus beyond the target cash balance the firm wishes to maintain) and financing (when the projected cash balance falls below the target cash balance).

3. Projected Balance Sheet

The projected balance sheet shows the projected assets, liabilities and owners equity at the end of the period. The inputs required for its preparation are the initial balance sheet, the profit plan, the capital expenditure budget, the cash budget, and the investment and financing plan.

4. Projected sources and uses of funds statement

The projected sources and uses of funds statement shows the sources of funds and uses of funds in the planning period (funds are usually defined as working capital). The inputs required for its preparation are the initial balance sheet, the projected balance sheet and the projected income statement.

The projected sources of funds are:

• Operations (profit before tax plus depreciation),
• Issue of additional share capital
• Decrease in fixed assets, and
• Increase in long-term liabilities

The projected uses of funds are:

• Tax payment,
• Dividend payment
• Decrease in long-term liabilities
• Gross increase in fixed assets, and
• Net change in working capital

Methods of Financial Forecasting

1. Qualitative Techniques of Financial Forecasting

(i) Executive Opinions

In this method, the expert opinions of key personnel of various departments, such as production, sales, purchasing and operations, are gathered to arrive at future predictions. The management team makes revisions in the resulting forecast, based on their expectations.

(ii) Reference Class Forecasting

This method involves predicting the outcome of a planned action based on similar scenarios in other times or places. This is used to defy predictions that are arrived at based only on human judgment.

(iii) Delphi Technique

Here, a series of questionnaires are prepared and answered by a group of experts, who are kept separate from each other. Once the results of the first questionnaire are compiled, a second questionnaire is prepared based on the results of the first. This second document is again presented to the experts, who are then asked to reevaluate their responses to the first questionnaire. This process continues until the researchers have a narrow shortlist of opinions.

(iv) Sales Force Polling

Some companies believe that salespersons have close contact with the consumers and could provide significant insights regarding customer behavior. In this method of forecasting, the estimates are derived based on the average of sales force polling.

(v) Consumer Surveys

Businesses often conduct market surveys of consumers. The data is collected via telephonic conversations, personal interviews or survey questionnaires, and extensive statistical analysis is conducted to generate forecasts.

(vi) Scenario Writing

In this method, the forecaster generates different outcomes based on diverse starting criteria. The management team decides on the most likely outcome from the numerous scenarios presented.

2. Quantitative Techniques of Financial Forecasting

(i) Proforma Financial Statements

Proforma statements use sales figures and costs from the previous two to three years after excluding certain one-time costs. This method is mainly used in mergers and acquisitions, as well as in cases where a new company is forming and statements are needed to request capital from investors.

(ii) Time-Series Forecasting

Time-series forecasting is a popular quantitative forecasting technique, in which data is gathered over a period of time to identify trends. Time-series methods are one of the simplest methods to deploy and can be quite accurate, particularly over the short term. Some techniques that fall within this method are simple averaging and exponential smoothing.

(iii) Cause-Effect Method

Here, the forecaster examines the cause-and-effect relationships of the variable with other relevant variables such as changes in consumers’ disposable incomes, the interest rate, the level of consumer confidence, and unemployment levels.  This method uses past time series on many relevant variables to produce the forecast for the variable of interest.

Financial forecasting is tough and selection of the appropriate forecasting method is crucial to achieve the desired results. One needs to remember that the chosen method for one program may differ for another. While complex techniques may give accurate predictions in special cases, simpler techniques tend to perform just as well. Whatever may be the case, financial forecasting always helps to predict future performance and aids decision makers.