A share price model for Forest Laboratories between 2009 and 2011

Forest Laboratories (FRX), like Abercrombie & Fitch, also was one of the first companies with a stable and deterministic share price model estimated in September 2009 (back into November 2008).  This is a company from Healthcare subcategory of the S&P 500 list specialized in drugs manufacturing. We revisited this model in September and December 2010 and always found the same defining variables with almost the same time lags.

Our approach to deterministic share pricing (we have been tracking approximately 70 companies from S&P 500) is based on the decomposition of a share price into a weighed sum of two selected consumer price indices. For FRX, all models between 2009 and 2011 are defined by the (not seasonally adjusted) index of dairy and related products (DAIRY) and the price index of other household equipment and furnishing (OHEF), as reported by the US BLS. The former CPI component leads the share price by 3 month and the latter is 4 months ahead of the share price. Figure 1 depicts the overall evolution of both involved indices through March 2011.

In this post, we compare the 2009 and 2011 share price models for FRX. For the 2009 model we use the most recent defining CPIs, as available in April 2011, and the measured monthly closing prices through March 2011. This allows validating the initial model and demonstrating its reliability.  These models are as follows:

FRX(t) =  -0.53DAIRY(t-3) – 4.18OHEF(t-5)  - 13.41(t-1990) + 706.57 (September 2009)   

FRX(t) =  -0.61DAIRY(t-3) – 3.89OHEF(t-4)  - 11.65(t-1990) + 668.75 (March 2011)   

where t is calendar time. All coefficients are close with just minor variations related to the updated share prices. Therefore, the model is effectively the same between November 2008 and March 2011. In other words, we obtained a deterministic (leading by three months) model which was valid during 30(!) months.   Figure 2 illustrates the difference between the original and current models.  

The residual error is $4.40 for the period between June 2003 and March 2011. From the most recent model in Figure 2, we expect a fall to the level of $20 per share in 2011 Q2.

 

Figure 1. Evolution of the price of DAIRY and OHEF.

Figure 2. Observed FRX share prices and that predicted in 2009 and 2011. The early model has a larger time lag for the OHEF index which results in a slight underestimation of the share price in 2010 and 2011.