The stock market is never stable. Market risk is one of the risks of investing in stocks. The price of a particular stock can move up and down within a single day. Some price movements can be drastic. However, it is still important to note that stock investing has notable benefits or advantages over other assets and securities such as bonds and the money markets. Knowing the factors that affect stock prices or move the stock market should be part of a general investment strategy, including specific risk management and wealth preservation strategies.
What Causes the Stock Market to Move? What are the Factors Affecting Stock Prices?
A share price or stock price is the currency-equivalent value of a single share or stock of an issuing company. It represents the amount it would cost to buy one share in a company and reflects what current buyers are willing to pay and what current sellers are willing to take.
One of the risks of investing in stocks is this market volatility. The stock market is considered volatile because of the constant fluctuations in stock prices. The most general explanation behind these price swings is the law of supply and demand. There are also other factors that influence both the stock prices and the supply and demand for certain stocks.
Stock prices are also the most observable of all measures that can be referenced to make inferences about the performance of a particular issuing company. The price is not fixed and it fluctuates. Stocks traded in the stock market are more volatile.
Below are the factors that move stock prices up and down:
1. Supply and Demand
It is important to note that stocks adhere to the same law of supply and demand like products or goods and services sold in markets across different sectors and industries. This means that the prices of particular stocks are largely determined by and dependent on the levels of supply and demand in the stock market. For example, if demand for Apple stock or Tesla stock is high, the price tends to go up, and if the supply is high, the price tends to go down.
There are more specific factors at work. Demand is influenced by investor sentiment and market trends. These sentiments and trends are further influenced by microeconomic and macroeconomic factors like company performance, industry situation, economic conditions, and economic indicators. Supply is influenced by market dynamics like company buybacks, stock splits, and issuance of new shares, as well as by economic conditions and regulations.
2. Company Performance
The performance of a particular company also influences the price of its stock, and even the price of its competitors and other related companies. For example, during and after Apple events in which it launches new products, the stock price of the company tends to go up. Product launches can drum up enthusiasm among investors. Nvidia has experienced a surge in its stock price beginning in 2022 due to its involvement in the artificial intelligence revolution.
Furthermore, in some instances, when a company announces something that cements its relevance in the future, other companies affected by these announcements tend to suffer from a decline in their stock prices following investors disposing of these stocks. The same also happens when a company is affected by negative news involving its internal affairs, bad publicity like corporate scandals, and unfavorable news involving its external environment.
3. Economic Conditions
Another set of factors that affect stock prices centers on economic conditions and economic events. The overall health of the economy has a significant impact on the performance of the stock market. A looming economic downturn or an actual recession stirs uneasiness among investors that compels them to take on less risk and choose more conservative investments like bonds. The same investors are willing to take on more risk and choose stocks during periods of economic growth.
Specific macroeconomic indicators also affect stock prices. A high-interest environment tends to reduce the demand for stocks because high interest rates increase the borrowing costs of companies and affect their profitability. However, during periods of significant inflation, stocks become more appealing because these asset classes or securities have a higher potential for capital appreciation. Note that inflation can erode the value of investments in bonds and money markets.
4. Sociopolitical Events
Tensions within a particular country due to political conflicts or social issues create uncertainties. Investors do not like being uncertain. Their usual response to these situations is to protect their interests by lessening their investments in the financial markets of the country in question to lessen their exposure to its sociopolitical risks. These conflicts and issues can take the form of civil wars, political upheavals, government inefficiencies, and unfavorable regulatory environments.
It is also worth mentioning that geopolitical risks or conflicts involving international relations tend to dampen several stock markets in directly and indirectly involved countries. The escalation of war between Ukraine and Russia affected the stock market of the United States because it disrupted the global supply chain and triggered a series of unfavorable macroeconomic events that affected how people perceived the operations and profitability of U.S. companies
5. Financial Markets
The dynamics across the greater financial markets also influence stock prices. It is important to note that different securities or asset classes also compete for investments. There is a limit to the capital that investors can provide. Consider the inverse relationship between stocks and bonds as an example. The prices of stocks tend to go up when the yields of bonds go down. This is because a decline in bond yields marks an increase in the attractiveness of stock investing.
Other asset classes can offer better potential for capital appreciation and inflation protections. Commodities like precious metals and oil are often seen as a better hedge against inflation. Hence, during periods of high inflation, investors might opt to invest in commodities instead. Real estate can also compete against stock. The higher income potential from owning real estate properties and having them rented can influence investors to forego investing in stocks.
Takeaways and Reminders: Importance of Understanding the Factors Affecting Stock Prices
It is important to underscore the fact that supply and demand influence stock prices. However, in considering the more specific factors affecting these prices, it is also worth mentioning that stock price movements and the overall performance of the stock market reflect the collective sentiments and reactions of investors to different factors or conditions and events.
Nevertheless, by understanding what drives stock prices, investors can determine potential buying and selling opportunities. This is helpful in both long-term investing and trading activities. Most of the factors of stock price movements are also taken into consideration in thorough fundamental analysis and even used to complement technical analysis and its principles.
The fact that the stock market is volatile necessitates the need to understand why stock prices go up and down. This understanding can help manage the risks from volatility, set realistic expectations, avoid emotion-driven investment decisions, navigate through market volatility with confidence, adapt to changes, and tailor investment strategies.
It is also worth noting that these factors are not universal and absolute. For example, the prices of cyclical stocks are more susceptible to economic conditions because they follow the boom-and-bust cycle of the economy. This is not true for most defensive stocks. These stocks tend to be more resilient to economic downturns and sociopolitical situations.
