Stock prices can be quite unpredictable, moving up and down within a single day, especially for those new to investing. In this guide, we'll delve into the fundamental reasons behind these fluctuations and gain an understanding of how the stock market works to establish and adjust stock prices. Continue reading to find out more.
The stock market works like an auction where one group wants to sell a part of a company, and another group wants to buy it. When they agree on a price, a trade happens, and that sets the new market price for the stock.
People or groups buying and selling can be anyone – individuals, companies, institutions, governments, or firms handling money for clients, funds, or pension plans. Often, you won't know who is on the other side of the trade.
The amount of shares traded is called "trading volume." It shows how popular a stock is and how much other investors are interested in it. It also helps traders know if it's easy to buy or sell that stock.
The prices of stocks go up or down because of how many people want to buy or sell them. In the stock market auction, if more people want to buy than sell, prices go up. This encourages more sellers to sell, even if they weren't planning to. On the flip side, if more people want to sell and there are fewer buyers, prices go down. The ones willing to accept the lowest price end up setting it, leading to a downward trend in prices.
If a lot of stocks are sold all at once, it can cause issues. In the 2007-2009 financial crisis, companies like Lehman Brothers had to sell everything quickly to get money because they were facing bankruptcy. They had assets that were hard to turn into cash. This flooded the market with stocks that were actually worth more to someone wanting to keep them for a long time, but Lehman sold them for less.
Most days, stock prices don't change a lot. They might go up or down by a small amount, maybe one or two percent, with occasional bigger changes. However, there are times when things happen that make stock prices go up or down a lot.
More people might start buying or selling stocks because of things like a company's earnings report showing good or bad news. It could also be because of big financial news, like an interest-rate change, or even a natural disaster like a hurricane. These events can make investors quickly decide to sell or buy stocks. Their decisions might be based on feelings or careful thinking, but either way, they can change the stock prices.
Different people have different ways of investing, and this can impact how stocks are sold. For instance, if a company's earnings report is not good, some people who own its stock might get worried and sell quickly. This rush to sell can make the stock price go down because there are more people selling than buying.
On the flip side, there are investors who might see the bad news as a temporary problem. They might think it's a chance to buy the company's stock at a lower price, expecting it to go up again in the future.
Then, there are speculators who buy and sell stocks not based on the company's real value but on some other factor. These speculators can make stock prices go to extremes. In contrast, there are investors who only want to buy stocks when they are cheaper than their actual value, believing they will grow in value over time.
People who follow the value investing approach usually decide to buy or sell stocks by looking at a company's financial health and their overall sense of whether the company's stock is priced fairly.
When people talk about a stock's price, they usually mean the cost of the most recent trade. So, the price keeps changing whenever a new trade happens, unless it's for the same price as the one before. Big stocks, like Apple, are traded millions of times daily, causing the price to change frequently. On the other hand, lesser-known penny stocks may only be traded a few thousand times a day, resulting in less frequent price changes.
In theory, the cost of a stock should be the same no matter which brokerage you use. However, in reality, tiny variations like when the trade is executed or the fees involved might cause slight differences in price. The more easily a stock can be bought or sold (we call this "liquid"), the less chance there is for these small details to impact the price. If you're worried about these differences, it's a good idea to use a limit order, which ensures you get the stock at a specific price.
