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Stock price is determined by the buyers and sellers, correct?

What causes people to buy or sell? Is it news? earnings? stock analysis and techniques? I mean even if a company is reporting increasing revenues, this doesn't mean stock price will move? Why do these 'good' or 'bad' news make people want to buy/sell a stock?

Theoretically could a bunch of people short AMZN and drive down the price regardless of how well it is doing?

  • Why do you think taking a short position necessarily drives down the price? – quid Jul 21 '17 at 15:26
  • because people are selling it right? more people who sell will drive price down? – Jonnyboi Jul 21 '17 at 15:41
  • Every transaction has a buyer and a seller. A short seller wants the highest price possible when they sell, just the same as a long. Short selling just reverses the timing entry and exit points because the exit happens first but the goal is the same, buy low -> sell high. – quid Jul 21 '17 at 15:43
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    There's also a big difference between what motivates institutional traders and individuals. An individual trader can buy or sell a stock for an infinite number of reasons. Maybe they like the brand name or saw a product on sale somewhere and liked it. Maybe they need $ now for a purchase and want to cash out a bit of stock to pay for it. – Michael McGriff Jul 21 '17 at 17:04
  • This is the million-dollar question. – Roy Tinker Jul 21 '17 at 18:33
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First, note that a share represents a % of ownership of a company. In addition to the right to vote in the management of the company [by voting on the board of directors, who hires the CEO, who hires the VPs, etc...], this gives you the right to all future value of the company after paying off expenses and debts. You will receive this money in two forms: dividends approved by the board of directors, and the final liquidation value if the company closes shop. There are many ways to attempt to determine the value of a company, but the basic theory is that the company is worth a cashflow stream equal to all future dividends + the liquidation value. So, the market's "goal" is to attempt to determine what that future cash flow stream is, and what the risk related to it is.

Depending on who you talk to, a typical stock market has some degree of 'market efficiency'. Market efficiency is basically a comment about how quickly the market reacts to news. In a regulated marketplace with a high degree of information available, market efficiency should be quite high. This basically means that stock markets in developed countries have enough traders and enough news reporting that as soon as something public is known about a company, there are many, many people who take that information and attempt to predict the impact on future earnings of the company.

For example, if Starbucks announces earnings that were 10% less than estimated previously, the market will quickly respond with people buying Starbucks shares lowering their price on the assumption that the total value of the Starbucks company has decreased. Most of this trading analysis is done by institutional investors. It isn't simply office workers selling shares on their break in the coffee room, it's mostly people in the finance industry who specialize in various areas for their firms, and work to quickly react to news like this.

Is the market perfectly efficient? No. The psychology of trading [ie: people panicking, or reacting based on emotion instead of logic], as well as any inadequacy of information, means that not all news is perfectly acted upon immediately. However, my personal opinion is that for large markets, the market is roughly efficient enough that you can assume that you won't be able to read the newspaper and analyze stock news in a way better than the institutional investors. If a market is generally efficient, then it would be very difficult for a group of people to manipulate it, because someone else would quickly take advantage of that. For example, you suggest that some people might collectively 'short AMZN' [a company worth half a trillion dollars, so your nefarious group would need to have $5 Billion of capital just to trade 1% of the company]. If someone did that, the rest of the market would happily buy up AMZN at reduced prices, and the people who shorted it would be left holding the bag.

However, when you deal with smaller items, some more likely market manipulation can occur. For example, when trading penny stocks, there are people who attempt to manipulate the stock price and then make a profitable trade afterwards. This takes advantage of the low amount of information available for tiny companies, as well as the limited number of institutional investors who pay attention to them. Effectively it attempts to manipulate people who are not very sophisticated.

So, some manipulation can occur in markets with limited information, but for the most part prices are determined by the 'market consensus' on what the future profits of a company will be.


Additional example of what a share really is:

Imagine your neighbor has a treasure chest on his driveway:

He gathers the neighborhood together, and asks if anyone wants to buy a % of the value he will get from opening the treasure chest. Perhaps it's a glass treasure chest, and you can mostly see inside it. You see that it is mostly gold and silver, and you weigh the chest and can see that it's about 100 lbs all together. So in your head, you take the price of gold and silver, and estimate how much gold is in the chest, and how much silver is there. You estimate that the chest has roughly $1,000,000 of value inside. So, you offer to buy 10% of the chest, for $90k [you don't want to pay exactly 10% of the value of the company, because you aren't completely sure of the value; you are taking on some risk, so you want to be compensated for that risk].

Now assume all your neighbors value the chest themselves, and they come up with the same approximate value as you. So your neighbor hands out little certificates to 10 of you, and they each say "this person has a right to 10% of the value of the treasure chest". He then calls for a vote from all the new 'shareholders', and asks if you want to get the money back as soon as he sells the chest, or if you want him to buy a ship and try and find more chests. It seems you're all impatient, because you all vote to fully pay out the money as soon as he has it.

So your neighbor collects his $900k [$90k for each 10% share, * 10], and heads to the goldsmith to sell the chest. But before he gets there, a news report comes out that the price of gold has gone up. Because you own a share of something based on the price of gold, you know that your 10% treasure chest investment has increased in value. You now believe that your 10% is worth $105k. You put a flyer up around the neighborhood, saying you will sell your share for $105k. Because other flyers are going up to sell for about $103-$106k, it seems your valuation was mostly consistent with the market.

Eventually someone driving by sees your flyer, and offers you $104k for your shares. You agree, because you want the cash now and don't want to wait for the treasure chest to be sold. Now, when the treasure chest gets sold to the goldsmith, assume it sells for $1,060,000 [turns out you underestimated the value of the company]. The person who bought your 10% share will get $106k [he gained $2k]. Your neighbor who found the chest got $900k [because he sold the shares earlier, when the value of the chest was less clear], and you got $104k, which for you was a gain of $14k above what you paid for it.

This is basically what happens with shares. Buy owning a portion of the company, you have a right to get a dividend of future earnings. But, it could take a long time for you to get those earnings, and they might not be exactly what you expect. So some people do buy and sell shares to try and earn money, but the reason they are able to do that is because the shares are inherently worth something - they are worth a small % of the company and its earnings.

  • if a may follow up, why do we view company with good profits as a good stock buy? Is it because we feel other people will view the same and buy it and thus drive the price up ? In my understanding these good factors have nothing to do with the price itself, it just influcences buyers/sellers, right? – Jonnyboi Jul 21 '17 at 14:21
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    @Jonnyboi Please read my answer again - the reason that profits are good for shareholders, is because those profits are effectively owned by the shareholders. Either business will use the profits to pay a dividend, or they will use the profits to invest in other projects earning even more money. Trading stock is not just a game of hot potato. The value isn't in simply hoping to sell your shares for more, later - the value is in the inherent value of the future cashflows that the company will eventually distribute to shareholders in the form of dividends. – Grade 'Eh' Bacon Jul 21 '17 at 14:30
  • thanks, i understand now, but what about companies that do not pay dividends? – Jonnyboi Jul 21 '17 at 14:41
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    @Jonnyboi The decision to not pay dividends is made by the board of directors. The board of directors is elected by the shareholders [but usually enough votes are cast by 'institutional investors' that an individual's vote is meaningless]. So the shareholders ultimately approve the dividend payment policy. If a company has a plan to use the money for other things [for example, startup companies rarely pay dividends], then most shareholders would often prefer that the company instead use its own cash to create future growth. If you prefer to get dividends you shouldnt invest in those companies. – Grade 'Eh' Bacon Jul 21 '17 at 14:57
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Stock price is determined by the buyers and sellers, correct?

Correct! "Everything is worth what its purchaser will pay for it"-Publius Syrus

What causes people to buy or sell? Is it news? earnings? stock analysis and techniques?

All of these things influence investors' perception of how much a stock is worth. If AMZN makes a lot of money one quarter, then the price might go up. But maybe public perception of AMZN changes because of a large scandal. This could cause the share price to decline even with the favorable earnings report.

Why do these 'good' or 'bad' news make people want to buy/sell a stock?

People invest to make money. If it looks like a company is going to take a turn for the worst, people will sell. If it looks like the company has a bright, cash-laden future in front of them, people will buy. News is one of the many factors people use to determine how well a company will do.

Theoretically could a bunch of people short AMZN and drive down the price regardless of how well it is doing?

Say investors wanted to boycott AMZN in order to drive down the cost and get some cheap shares. This is pretty silly, but say for the sake of the argument that everyone who owned AMZN decided to sell their shares and no other investor was willing to buy the shares for less than $0.01, then AMZN shares would be "worth" $0.01 in that aspect. That is extremely unlikely to happen, though, for two reasons:

  1. There's bound to be some investors who would break the boycott and buy the shares for, say $1.00.
  2. Anyone holding Amazon shares would not be inclined to sell the shares for less than they perceive the shares are worth.
  • But why do we care how a company does? The profits and how well it is doing doesnt direct affect stock price right? rather it affects the perceptions of the buyers and sellers? So if AMZN has great profits I buy because i think everyone else will right and thus drive up stock price – Jonnyboi Jul 21 '17 at 14:24
  • @Jonnyboi If AMZN has great profits, then it has money to pay out future dividends. Buy buying shares, you buy a right to those dividends. So if the market believes AMZN is worth half a trillion dollars, it's because people buying and selling AMZN stock basically believe that AMZN will, over the course of all time, distribute half a trillion dollars worth of dividends [and the market considers the risk that the number will be higher/lower than that, as well]. – Grade 'Eh' Bacon Jul 21 '17 at 14:32
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    @Jonnyboi You've got it. As Grade 'Eh' Bacon points out, the stock price isn't arbitrary, though. AMZN owns assets to back up its stock prices – Nosrac Jul 21 '17 at 14:36
  • what about companies that elect not to pay dividends? why do peiople selling AMZN believe it will distribute, arent they getting rid of their position and believing it will go down ? – Jonnyboi Jul 21 '17 at 14:40
  • Because the company is taking all of its profits and reinvesting the money back into the company. Amazon owns warehouses, servers, algorithms, trade secrets--all of these things are worth a lot of money. The owner of AMZN owns Amazon's assets too. – Nosrac Jul 21 '17 at 17:39
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why sell? Because the stock no longer fits your strategy. Or you've lost faith in the company.

In our case, it's because we're taking our principal out and buying something else. Our strategy is, basically, to sell (or offer to sell) after the we can sell and get our principal out, after taxes. That includes dividends -- we reduce the sell price a little with every dividend collected.

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