By elmads

I remember, during my grade school years, my mom would sometimes take me to the nearest market place early in the morning. In there I would see different market vendors with various products being sold, while waving their newspapers or fans to swat or shoo away those pesky flies hovering around their goods. And buyers who walks around the market to look for the specific product that they need to purchase. I also remember that buyers always throw in prices lower than what the sellers offer for their goods. It was just funny to see my mom doing it as well, as it is a battle of will and endurance, the first to give in will loose the seemingly never ending price wars. It was just hilarious and entertaining for me that time.

There were even instances in which the heated word price battles get out of hand and turn into a physical fist fight or slapping fight, which will eventually stop with the aid of the local police. Ah! those good all times. After a few years, I learned that those kind of event which I called the word price battles have various terms, namely haggling, bargaining, negotiating and dealing. It is an agreement between two or more people or groups of people, to what each will do for the other. In my market place experience above, it will be an agreement between the buyers and the sellers for the price of good sold. I then understood, why sometimes people get rowdy if both parties fail to arrive into an agreement or find the middle ground.

The narrative above is the same with the capital markets. Generally, a marketplace is where people gather and meet each other for the sole purpose of trading products and services to one another. The difference between physical market place and the capital markets is that with capital markets, people trade assets such as stocks, bonds, and commodities, whereas the former, trades mostly physical products and goods. I have discussed asset classes in my blog titled “The 5 basic asset classes”. Markets are formed to to give leeway for people to grow their hard-earned money for a specific purpose in their lives.

Supply and Demand

Capital markets are driven by buyers and sellers, same as with any other markets. It is predicated by the law of supply and demand which causes market prices to go up and down.

In particular, prices will never go up if no one is willing to buy at higher prices, same goes with selling, prices will continue to go down if everyone is selling it at lower prices, not until there will be demand for buyers to purchase at a specified price level.

To give you context, the chart above is a stock chart of JP Morgan Chase Bank in the US, back in the year 2016-17. As illustrated, start at the bottom circular indigo line, the sellers sold their stocks hard, because of this it reached 53USD but the buyers stepped in and bought it, the demand for higher price level kept on continuing until it peaked at around 86 USD/share price levels (as seen on the upper right). Nonetheless, for a couple of weeks the price stagnated at 84-86 price range which signified that there is no demand to buy at higher levels, nor to sell at lower levels. It may sound simple as that, but there are factors that contribute to these fluctuations of prices.

4 Basic factors that affect stock market prices

1.) Market sentiments – Each and one of us have our own views and perspective in life, this applies in investing as well. There are industries, sectors or companies that investors think will not do well, have a very good outlook in the future or will not just be popular at all. See for example, companies who makes electronic vehicles, the major sentiments of investors in this industry are very positive. This is because everyone thinks and suggests that this will definitely be the future of automobiles and that the growth of the Electronic Vehicle companies will be tremendous in the upcoming years. Henceforth, a lot of investors flock into those publicly traded companies.

On the flipside, there are poor sentiments about the oil industry right now, because people see renewable energy as the healthy replacement to oil in terms of producing energy. This sentiments is reflected in the prices of oil company stocks which are at historical lows.

2.) News – This is what I call a hardcore market mover. Prices could go up or down in a massive amounts, like 10% decrease or increase in price just because of certain news. These movements are news driven because it influences investors in their decision to buy, hold(if we have a stock, we do not buy more nor sell it, you just hold on it) or sell a stock.

When the news regarding a specific company is negative, the stock can fall because of fear, insecurity and doubts of investors. On the other hand, when it is a good news, the stock can surge because of the confidence it can given to their investors.

Above is a stock chart of Intel Corporation in the US. As you can see, there had been a significant Gap from the line above down below (see the arrow pointing downwards), this is what you call a Gap down which is usually due to the news and market sentiments. This normally happens after a good or bad news is reported and before the stock market opens for the trading day.

In this case, Intel had a gap down of 16% the next day because of bad news that one of there microchips will be delayed to be sold in the main markets until 2021. It was so bad because their competitors have already sold the same microchip already, this translated as a very negative sentiment to their investors because it give the idea that intel is significantly falling back behind from their competitors, hence the gap down in its stock price.

3.) Economy – Remember that the capital markets are based on supply and demand, when the economy of the country where we trade goes into a bad economic times then we expect that there will be less trading that will happen, as investors will mostly be on a defensive position to preserve wealth and allocate it for safety and security. In particular, during the covid19 pandemic in 2020, most people sold their stock holdings because they have the fear and doubts of the uncertainty of what was happening generally in the world economy. These are the increasing number of cases, deaths and shutdowns almost all over the world which further increased everyone’s anxiety. This in turn reverberated into the economy as there is less, to no supply and demand for trading even in the basic markets of goods and services. Furthermore, this caused everyone to panic and turn into the defensive position of preserving money rather than accumulating wealth. People sold their assets into lower price levels just to have liquid cash, which cause the capital market prices to plunge at lower levels. Also, there was no demand from buyers at all because of the panic that had been happening, which caused for a further decline on the capital market prices whether it was stocks, bonds, real estate and commodities.

4.) Fundamental factors of a company – A company who is growing in terms of business operations, cash flow, revenue net income and margins will have more demand from investors. This is what I focus more, the underlying business operations of a company, their future prospectus and growth. It is common sense that we would buy companies that will continue to operate and grow more in the long run.

On the other hand, declining companies will most likely have a declining stock price too. This is because investors who do fundamental analysis and research will know if a company is in a deep problem or worse in near bankruptcy status already. Investors tend to stay away from such companies, but there are some investors who hold company stocks in decline with the expectation of either an extension of growth of the company or to buy them lower than the whole company’s equity worth/liquidation price.

Microsoft Revenue 2006-2020 | MSFT | MacroTrends

The chart above is a stock chart and historical revenue graph of Microsoft Corporation in the US, this is from 2011-2020. It clearly depicts that the Microsoft’s stock price reflects it revenues (the money gained by the company before deductibles, it is like our Gross Salary pay if we base it on an individual level) for a nearly a decade already. The profitability, margins and operations of Microsoft also reflects into the growth of their stock price. A company will always equal the growth of its stock price in the long haul, but in the short run it will erratically fluctuate.

Investors, traders and the markets

Markets in the world are mostly irrational, why is that you say? it is because of human beings. Yes, it is us who make the markets irrational. Investors will always throw prices that can either be at sky high levels or depressed levels, investors seldom trade at the proper price range of what the asset should be trading for.

Throwing various prices in the capital markets can be compared to selling a home. Interested people will ask if they could buy it for a certain price level, and these price levels will vary. Most buyers will always pitch you a price less than what you want to sell it for. It is just the nature of people to purchase goods and services at lower price levels, but there are instances that they can also purchase more than the equal value of it. Just like in auctions, in which whoever is willing to pay the highest price will be the one taking home the desired item. The prices that people throw in auctions are usually 2-10 times more than the actual value of the item.

With this in mind, It will always be down to us investors if we will take the prices that other investors will throw to us. Knowing fundamental analysis will mitigate the risk of us purchasing at price levels that is too high than what a company is approximately worth. This is one of the value investing principles that I practice and continue hone.

To sum it up

With the irrationality and massive fluctuations of the markets, taking advantage of it is what an investors should do.

This is where the most famous quote from Jim Rogers is applied

“Buy low and sell high. It’s pretty simple. The problem is knowing what’s low and what’s high”.

It is indeed a problem to know what is high and what is low. That is the reason why we need to continuously hone our knowledge and skill in investing, for us to become the best version of ourselves. A version in which we can produce sustainable returns over a very long period of time with efficiency, patience and discipline regardless of the economic status of the country we invest in or even the world.

Knowledge is my Sword and Patience is my Shield,

elmads

This blog is for informational purposes only and not a Financial Recommendation. Not all information will be accurate. Consult an independent financial professional before making any major financial decisions.