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 market. 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.
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 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
Stocks are tradeable assets. Similar to all of the other things sold in their respective markets such as commodities, consumer goods, and financial instruments, among others, the prices of stocks are governed by the law of supply and demand.
Note that an abundance of supply and less demand often result in a price decrease. However, if there is less supply and more demand, prices tend to increase.
The number of stocks a company can issue is limited and is predetermined at its creation. This number can be increased or decreased through a vote by its shareholders.
Stock prices tend to rise when there are more buy orders or investors willing to invest in the issuing company than sell orders. These prices can also decline when there are more sell orders or investors dumping their stocks than buy orders.
2. Macroeconomic Factors
The law of supply and demand is not enough to understand what moves the stock market or what causes the price of a particular stock to move up and down. Macroeconomic factors play an important role in determining stock prices and the performance of the stock market.
Examples of these macroeconomic factors include interest rate, inflation rate, the performance of foreign exchange or forex rates, and employment rate, among others.
Note that these factors also correspond to macroeconomic indicators. Negative indicators create a negative perception among investors.
For example, high interest rates and prolonged periods of high inflation rate create stagflation, which is indicative of arrested business activity and economic growth.
High levels of unemployment or poor performance of a local currency versus foreign currencies can also stun economic growth and its growth potential.
Unfavorable macroeconomic indicators tell investors to either refrain from investing in the stock market or direct their investments toward more ideal financial markets, as well as toward geographical markets with better economic outlooks.
The aforesaid illustrates that the economic health of a particular country influences the supply and demand in the stock market, specifically by shaping the perception of investors regarding the soundness of their investment decisions.
3. Sociopolitical Conditions
Another factor that affects the prices of stocks and the overall performance of the stock market is the sociopolitical situation in a particular geographic market. For example, stock prices tend to move toward a downward trend during social unrest.
Elections can have a negative or positive impact on the stock market. A frontrunner who has earned the favor of the business community and economists can promote an upward movement in stock prices. The opposite happens for an unpromising frontrunner.
Several situations involving the greater international community can affect the stock markets of relevant countries. As an example, if a country has received economic sanctions or has received armed threats, it is natural for its stock market to plummet.
Investors will not risk investing in companies operating in geographical markets experiencing sociopolitical uncertainties. These situations often result in capital flight characterized by massive sell orders and subsequent decreases in stock prices.
4. Microeconomic Factors
The stock market also responds to different microeconomic factors. Note that microeconomics pertains to the behaviors of specific industries or sectors, companies, and individuals. Each microeconomic component can have an impact on stock prices.
For example, the performance of a particular company or developments in its policies and strategic direction can move the price of its stocks either downward or upward depending on the perception of investors and analysts.
Announcements of mass layoffs or closures of facilities signal investors that the involved company is having financial troubles. News about mergers and acquisitions can also be met with either positive or negative responses from investors.
In addition, the performance of a company whose business is critical to a particular industry can also affect the stock prices of other companies.
Consider a major supplier of materials used in the fabrication of semiconductors as an example. Internal problems within this company can have a negative impact on consumer electronics manufacturers and automakers, among others.
The sentiments and emotions of investors also influence the performance of the stock market. Stock prices can go down during prolonged periods of fear or uncertainties.
For example, an unfavorable economic outlook can trigger investors to offload stocks in favor of more conservative investment options. Massive sell orders can drive down the prices of stocks due to the overabundance of supply.
A favorable economic outlook can result in positive sentiments. Sudden price upticks can even compel some investors to pick up stocks to maximize the perceived opportunity in stock investing. Widescale buy orders can drive up stock prices.