BERBER

• VOLATILITY AS AN INDICATOR OF VOLATILITY AS AN INDICATOR OF UNCERTAINTY IN AND ITS IMPACT ON THE UNCERTAINTY IN AND ITS IMPACT ON THE REALIZATION OF INDUSTRIAL BUSINESS REALIZATION OF INDUSTRIAL BUSINESS EXPECTATIONSEXPECTATIONS

- Murray Pellissier

* Stellenbosch University, South Africa

VOLATILITY AS AN INDICATOR OF UNCERTAINTY IN VOLATILITY AS AN INDICATOR OF UNCERTAINTY IN AND ITS IMPACT ON THE REALIZATION OF AND ITS IMPACT ON THE REALIZATION OF INDUSTRIAL BUSINESS EXPECTATIONSINDUSTRIAL BUSINESS EXPECTATIONS

Research Objectives :Research Objectives :• To provide additional information on the

elaboration of micro BTS data• To derive survey expectations volatility

(uncertainty)• To derive survey expectations

realizations• To evaluate the impact of uncertainty on

the realizations of business expectations

VOLATILITY AS AN INDICATOR OF UNCERTAINTY VOLATILITY AS AN INDICATOR OF UNCERTAINTY IN AND ITS IMPACT ON THE REALIZATION OF IN AND ITS IMPACT ON THE REALIZATION OF INDUSTRIAL BUSINESS EXPECTATIONSINDUSTRIAL BUSINESS EXPECTATIONS

Keywords :Keywords :

• Volatility

• Uncertainty

• Business Expectations

• Realization of Expectations

Volatility/UncertaintyVolatility/Uncertainty

• Volatility is seen as the Volatility is seen as the quantification of historic quantification of historic movements in business movements in business expectations and radical (true) expectations and radical (true) ‘Uncertainty’ a subjective ‘Uncertainty’ a subjective situations linked to the relevant situations linked to the relevant ‘Volatility’ where no objective ‘Volatility’ where no objective classification is possibleclassification is possible

Business ExpectationsBusiness Expectations

• Expectations can be described as a Expectations can be described as a subjective feeling or perception subjective feeling or perception about an incident to happen in about an incident to happen in futurefuture

• One way to measure business One way to measure business expectations on an ongoing basis is expectations on an ongoing basis is to ask business people – Business to ask business people – Business Tendency SurveysTendency Surveys

BER’s survey on Industrial BER’s survey on Industrial Business ConditionsBusiness Conditions

• The BER evaluates the cyclical The BER evaluates the cyclical stance on business conditions stance on business conditions within the South African within the South African Manufacturing sector, by quarterly Manufacturing sector, by quarterly BT surveys, based on the ex-post BT surveys, based on the ex-post (survey quarter) and ex-ante (survey quarter) and ex-ante (forecast quarter) survey questions (forecast quarter) survey questions

BER’s survey question evaluating BER’s survey question evaluating expectations on general Industrial expectations on general Industrial Business ConditionsBusiness Conditions

• “Compared to the same period a year ago, do you expect next quarter general business conditions to be” ?

• The individual modular responses to each The individual modular responses to each survey run are captured as :survey run are captured as : ‘1’ for UP , ‘2’ for SAME and ‘3’ for DOWN

Up Same Down

Comparing relative survey Comparing relative survey period-on-period changes in period-on-period changes in micro survey datamicro survey data

• Movements in individual modular Movements in individual modular responses over adjacent survey periods responses over adjacent survey periods can be classified in micro data terms as :can be classified in micro data terms as :

R11R11Up Up

R12R12Same Up

R13R13Down Up

R21R21Up same

R22R22Same Same

R23R23Down Same

R31R31Up Down

R32R32Same Down

R33R33Down Down

Example : Relative survey period-Example : Relative survey period-on-period modular evaluation matrix on-period modular evaluation matrix over five survey runsover five survey runs

SurveySurvey Relative Percentage ChangesRelative Percentage Changes

T : T-1T : T-1 R11R11 R12R12 R13R13 R21R21 R22R22 R23R23 R31R31 R32R32 R33R33 TotTot

2 : 12 : 1 2.5 4.1 1.6 3.3 45.9 11.5 1.6 14.8 14.8 100100

3 : 23 : 2 1.5 4.6 3.1 4.6 48.9 9.9 0.8 9.9 16.8 100100

4 : 34 : 3 8.5 1.9 0.9 7.5 45.3 7.5 1.9 9.4 17.0 100100

5 : 45 : 4 5.2 1.0 0.0 5.2 44.8 14.6 2.1 11.5 15.6 100100

BER’s survey questions considered BER’s survey questions considered for industrial expectations analysisfor industrial expectations analysis

• General Business ConditionsGeneral Business Conditions• Volume of ProductionVolume of Production• Volume of SalesVolume of Sales• Volume of New OrdersVolume of New Orders• Fixed InvestmentsFixed Investments• Purchasing PricesPurchasing Prices

Deriving Expectations Volatility & Deriving Expectations Volatility & Expectations RealizationExpectations Realization

Survey QuestionSurvey QuestionResponsesResponses ResponsesResponses

Period T-1Period T-1 Period TPeriod T

Survey-QSurvey-Q Survey-QSurvey-Q

Forecast-QForecast-Q Forecast-QForecast-QVolatilityRealiza

tion

Evaluation of expectations volatility of the Evaluation of expectations volatility of the BER’s micro survey data on industrial BER’s micro survey data on industrial business conditionsbusiness conditions

• By analyzing changes in micro survey By analyzing changes in micro survey data in period T-1 data in period T-1 (Forecast Quarter) (Forecast Quarter) compared to period T compared to period T (Forecast (Forecast Quarter)Quarter), directional movements in , directional movements in individual response expectations (individual response expectations (R12, R12, R13, R21, R23, R31 and R32R13, R21, R23, R31 and R32) over the ) over the sample period sample period 1992q3:2005q31992q3:2005q3 were were aggregated as Expectations Volatility aggregated as Expectations Volatility (EV)(EV)

Evaluation of expectations realizations of Evaluation of expectations realizations of the BER’s micro survey data on industrial the BER’s micro survey data on industrial business conditionsbusiness conditions

• By analyzing changes in micro survey By analyzing changes in micro survey data in period T-1 (Forecast Quarter) of data in period T-1 (Forecast Quarter) of individual response expectations, individual response expectations, compared to directional realizations in compared to directional realizations in period T (Survey Quarter) of individual period T (Survey Quarter) of individual responses estimations (responses estimations (R11, R22 and R33R11, R22 and R33) ) over the sample period over the sample period 1992q3:2005q31992q3:2005q3 were were aggregatedaggregated as Expectations as Expectations Realization (ER)Realization (ER)

BER’s Industry survey question on general BER’s Industry survey question on general business conditions business conditions Expectations Volatility (EV) vs Expectations Realization (ER)Expectations Volatility (EV) vs Expectations Realization (ER)

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BCEV(Expectations Volatility) lsBCER(Expectations Realization) rs

grbcever

R = -0,85

GeneralGeneral Business Conditions :Business Conditions : Comparison between Expectations Volatility & Comparison between Expectations Volatility & RealizationRealization

VolatilityVolatility RealizationRealizationObs BCEV BCER

1993 32.1 67.8

1994 30.6 68.0

1995 30.6 # 68.1 *

1996 40.1 61.4

1997 42.5 51.6 #

1998 33.0 59.4

1999 42.3 61.1

2000 47.3 * 51.9

2001 45.2 52.8

2002 45.2 57.0

2003 46.6 52.5

2004 45.4 52.7

Mean 40.1 58.7

Std.D 6.6 6.6

New Orders :New Orders : Expectations Volatility (EV) vsExpectations Volatility (EV) vs

Expectations Realization (ER)Expectations Realization (ER)

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OREV(Expectations Volatility) lsORER(Expectations Realization) rs

grorever

R = -0,16

New Orders :New Orders :Comparison between Expectations Volatility & Comparison between Expectations Volatility & RealizationRealization

VolatilityVolatility RealizationRealizationObs OREV ORER

1993 48.9 50.0

1994 45.3 61.1 *

1995 39.1 # 54.5

1996 43.2 55.3

1997 47.8 47.7 #

1998 49.6 * 57.8

1999 47.0 48.7

2000 48.0 51.8

2001 46.4 51.6

2002 45.6 53.4

2003 48.2 51.0

2004 46.8 50.6

Mean 46.3 52.8

Std.D 2.9 3.9

Ascending order indications of Ascending order indications of Expectations VolatilityExpectations Volatility

Expectations

BTS EvaluationBTS Evaluation Volatility

EVEVRealization

ERER

11 IV (Investment) 32.4 68.1

22 PP (Prices) 36.9 64.4

33 BC (Buss Conditions) 40.1 58.7

44 PO (Production) 45.7 54.5

55 SL (Sales) 46.3 53.4

66 OR (Orders) 46.3 52.8

MeanMean 41.341.3 58.658.6

CorrelationCorrelationss between Expectations between Expectations Volatility & RealizationsVolatility & Realizations

EvaluationEvaluation RelationshipRelationship RR t- valuet- value

Buss Conditions BCEV : BCER -0.85 -11.56

Fixed Investment IVEV : IVER -0.88 -13.04

New Orders OREV : ORER -0.16 -1.11

Production POEV : POER -0.69 -6.78

Prices PPEV : PPER -0.77 -8.43

Sales SLEV : SLER -0.75 -8.04

CausalityCausality between Expectations between Expectations Volatility & RealizationsVolatility & Realizations

• Granger causality analysis was Granger causality analysis was implemented to test the hypothesis, implemented to test the hypothesis, which comes first during the forecast which comes first during the forecast survey assessment of an industrial survey assessment of an industrial economic variable, prevailing economic variable, prevailing ‘uncertainty’ or expected ‘realization’ of ‘uncertainty’ or expected ‘realization’ of outcomeoutcome

• Granger causality establishes Granger causality establishes precedence and information content, precedence and information content, although it does not imply causality in although it does not imply causality in the more common use of the termthe more common use of the term

Directional CausalityDirectional Causality between between Expectations Volatility & RealizationsExpectations Volatility & Realizations

EvaluationEvaluation Granger CausalityGranger Causality

Buss Conditions Uncertainty Realization

Fixed Investment Uncertainty Realization

New Orders Uncertainty Realization

Production Uncertainty Realization

Prices Uncertainty Realization

Sales Uncertainty Realization

Research FindingsResearch Findings

• That uncertainty does impact negatively on the That uncertainty does impact negatively on the realizations of industrial business expectations realizations of industrial business expectations

• That directional causality from uncertainty, to That directional causality from uncertainty, to the corresponding realization of expectations is the corresponding realization of expectations is noted in the case of general business noted in the case of general business conditions, production and salesconditions, production and sales

• That un-directional causality is noted in the That un-directional causality is noted in the case of fixed investments and pricescase of fixed investments and prices

• That strong feedback causality in the case of That strong feedback causality in the case of new orders confirms that the directional new orders confirms that the directional causality goes from realization of historic causality goes from realization of historic expectations to prevailing uncertainty. expectations to prevailing uncertainty.

Component Factor Analysis of Component Factor Analysis of expectations volatility variablesexpectations volatility variables

• The six EV variables can be reduced to The six EV variables can be reduced to two main components (Eigenvalues>’1’)two main components (Eigenvalues>’1’)

• Component1 is mainly loaded by New Component1 is mainly loaded by New orders, Production and Sales factors. orders, Production and Sales factors.

• Component2 is mainly loaded by Fixed Component2 is mainly loaded by Fixed Investments and inverted Business Investments and inverted Business Conditions factorsConditions factors

• Component3 also loads relatively high on Component3 also loads relatively high on Eigenvalues and mainly embraces Eigenvalues and mainly embraces inverted Price factorsinverted Price factors

Composite Uncertainty IndicatorComposite Uncertainty Indicator

• Accepting Component1 of the Accepting Component1 of the Factor Analysis as indicative of an Factor Analysis as indicative of an un-weighted composite uncertainty un-weighted composite uncertainty (EV) indicator, a similar (EV) indicator, a similar expectations realizations (ER) expectations realizations (ER) indicator was developed for indicator was developed for comparison reasonscomparison reasons

Composite Uncertainty vs composite Composite Uncertainty vs composite Expectations RealizationsExpectations Realizations

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Uncertainty(EV) Realizations(ER)

grprinever00

R = -0,78

Index

'92=

100

Index '9

2=100

Components of expectations volatility Components of expectations volatility variablesvariables

• Based on the fact that Component1 Based on the fact that Component1 only explains 50% of the variance, only explains 50% of the variance, the six EV variables load quite the six EV variables load quite differently in comparison to each differently in comparison to each other and has to be further other and has to be further investigated in terms of weights in investigated in terms of weights in compiling an acceptable composite compiling an acceptable composite ‘Uncertainty’ indicator‘Uncertainty’ indicator

ConclusionsConclusions• It can be concluded that in the South It can be concluded that in the South

African Industrial case, prevailing African Industrial case, prevailing uncertainty surrounding business uncertainty surrounding business expectations do impact negatively on expectations do impact negatively on the realization of expectationsthe realization of expectations

• The possibility exist to compile an The possibility exist to compile an industrial business uncertainty indicator, industrial business uncertainty indicator, provided the relevant component provided the relevant component weights be further analyzed weights be further analyzed

VOLATILITY AS AN INDICATOR OF VOLATILITY AS AN INDICATOR OF UNCERTAINTY IN AND ITS IMPACT ON UNCERTAINTY IN AND ITS IMPACT ON

THE REALIZATION OF INDUSTRIAL THE REALIZATION OF INDUSTRIAL BUSINESS EXPECTATIONSBUSINESS EXPECTATIONS