Ever wondered why do stock prices move at all? Be it in the positive direction or in the negative one? There must be some reasons, right?
In this review, we will have a look at all the possible reasons behind this movement so that there are no doubts around this concept.
When a company goes public, it issues stocks or shares to the general public to raise funds from the market. These shares are then traded on stock exchanges (such as NSE, BSE etc) by individuals, corporations, banks, etc.
Now, the stock prices of different companies keep on moving continuously in either of the two directions at one time. At one instant, the stock price can either rise or fall. Let us try to understand why the stock prices move at all.
Demand and Supply Principle
If the demand for a particular stock rises due to any reason, then, the price of the stock will rise.
On the other hand, if the demand for any stock falls, i.e. its supply is much more than the demand, its price also falls. In simple words, the fluctuations in demand and supply cause fluctuations in stock prices and thus, such stock prices move.
Before trying to understand the various reasons that can cause these variations in demand and supply of a particular stock, let’s see how stock prices move on the stock exchange at an actual level.
Suppose someone is selling 100 shares at ₹110.20. If someone buys those 100 shares at ₹110.20, a transaction occurs and those 100 shares are no longer available for sale.
Then, the next offer may be to sell 50 shares at ₹110.25. If someone buys those 50 shares, or the seller cancels the order, then that order is removed and the offer moves to the next available price someone is selling at, maybe ₹110.5. The buying was in a large enough number to remove all the shares available up to ₹110.95.
This is the way stock prices move.
Transactions keep on happening at a very fast pace. In almost every instance, there are a number of buyers and sellers bidding and offering at different prices and in different quantities.
The bid price is the price at which a buyer wants to buy a stock and offer is the price at which a seller wants to sell the stock. If someone makes a large sell order that is bigger than the number shares available at the current bid, then the bid price will drop, because all those shares at the current bid are absorbed by the selling.
Similarly, when a buy order is placed which exceeds the number of shares available at the current offer, then offer price will move up because all those shares at the current offer are absorbed by the buying. Prices can move quickly depending on the aggressiveness of buyers and sellers.
Now, let us understand the three major factors that broadly affect stock prices:
Company Related Factors
There are many factors that cause stock prices to move which are influenced by the company itself like:
News on earnings and profits, and future estimated earnings
Business-related information like a new product or a product recall
Obtaining a new large contract
Negative news like possible employee layoff or resignation by auditors
Anticipated takeover or merger
Accounting errors or scandals
Changes in ratings given to companies by rating agencies like CRISIL and stock price targets declared by different brokerage houses\
Recent examples where stock prices showed hug movements because of internal factors of the company:
Vakrangee Ltd. and Manpasand Beverages Ltd – The auditors of these companies resigned just days before signing off on annual accounts due to “inadequate information”. This was a huge news and raised questions about the integrity of the companies.
The stock price of these companies came spiralling down after the news broke in the market.
Jet Airways – The quarterly results of the company were deferred. This raised many questions and the founder Chairman of the group, Mr Naresh Goyal also expressed some kind of dissatisfaction from his business which gave a bad signal to the investors and the stock price fell by around 10% in a single day.
There are many macro and microeconomic factors that affect stock prices like:
Industrial Performance – Industrial performance is again dependent on whether the current economic conditions are supporting the growth of the industry and sector of the stock or not.
Substitutes – When other sectors are growing at a faster pace or there are better returns on investment in other asset classes like bonds, real estate, gold, etc., the stock prices may decline.
Trend – It is often seen that stock prices move according to short-term trends. Such stock prices move may continue in the same direction or show trend reversal by starting to move in the opposite direction.
Market sentiment refers to the psychology of market participants trading in the stock market, individually and collectively.
For example, many times, it happens that the fundamentals of a company are not great but the market is myopically dwelling on a single piece of news and keep the stock prices high artificially.
An example of the recent past shows this concept quite aptly – The Dotcom Bubble!
A large number of internet companies rose to have market capitalizations in billions of dollars without ever making even the smallest profit.
Obviously, this could not have sustained forever, because of which the bubble was finally burst and most of those companies remained just a fraction of what they were in terms of market capitalization.
After discussing the factors that cause stock prices move in a particular direction, we know that we should always be careful in selecting stocks for our portfolios.
One needs to remain up to date with not only the performance of the business but also all the microeconomic as well as macroeconomic factors that can affect the stock prices.
One should take full advantage of technology in making investment decisions and subscribe to news feeds, apps, etc. in order to get information as soon as it is public so as to move fast and exit or enter positions in time in order to make and save money.
In case you are looking to get started with stock market trading or investments in general, let us assist you in taking your next steps forward: