Determining The Stock Market Price

It's probably the original million-dollar question: what determines the price of stock trading on the stock market? In fact, being able to determine the direction of any given stock market price has made many people very rich indeed over time. Get it wrong, of course, and they've lost the shirts off their back! So, what drives the price of the stock market?

Theoretically, the price of stock trading on the stock market is determined in much the same way as the price of any product: simple supply and demand. Where there is an abundance of supply, but no demand, the price of the stock should trade low. Where there is an abundance of demand, but no supply, the price of the stock should trade high. Other factors, such as the profit margin, etc., of the underlying company should be the driving force behind whether or not there is an abundance of supply or demand.

Now, the example above of how stocks are priced is the theory. In practice, things are not as easy as that and there are alternative ways that traders use to value a stock. The principal alternative means of determining the price of stock trading on the stock market is by use of something known as “the fundamental valuation analysis”. Fundamental valuation analysis is a system used by traders to justify a particular stock's trading price. An example of how this can be done is by means of the often-cited P/E (price-to-earnings) ratio; where values are set by means of an analysis of historic statistics, assigning the value to a stock based on measurable attributes.

In short, the supply and demand system of setting stock prices is what drives the short-term determination of a stock's trading price; whereas the fundamental valuation method is what drives the long-term determination of a stock's trading price.

The trick, as with all valuation methods, is working out when to jump in and out of the market. And, here's where the kick comes in: the third factor! In case you were not already aware of it, the third factor is greed – or, more appropriately - human greed! Seeing a stock going through the roof drives those of us who know nothing of the market to rush out and buy some. We just cannot stop our human emotion of greed from getting in the way of such matters as research. This, more than anything, is the reason why so-called investors get burnt.

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