2.9 How Are The Stock Prices Decided?
Here is an important question.
How are the stock prices decided? I am sure you will be clearer on this through the coming chapters. In simple terms, stock prices are initially determined by the value of the company and the amount of stocks they want to release. In stock terms, it is called market capitalisation or market cap. Let me explain it in brief.
Market cap or market capitalisation is an important term in stock investment. You will come across this term very often. Market capitalisation is the stock price multiplied by the number of shares outstanding..
ABC has 10 lakh outstanding shares (shares issued by the company).
ABC’s current stock market price is Rs 100. So the market capitalisation of ABC is Rs 10 crore (10 lakh x 100 = 10 crore).
Here is another example:
XYZ has 5 lakh outstanding shares.
XYZ’s current stock market price is Rs 175.
So the market capitalisation of XYZ is 5 lakh x 175 = Rs 8.75 crore.
Therefore, which is the bigger company? ABC or XYZ? Obviously enough it is ABC because though their share price is less, their market market cap is more i.e Rs 10 crore.
When a company issues shares for the first time the issue price is based on the face value of the stock. But after this when the stocks are traded in the stock market, the stock prices change every day as a result of the market forces. By this we mean that share prices change because of supply and demand. If more people want to buy stock (demand) than sell it (supply), then the price moves up. Conversely, if more people want to sell a stock than buy it, there would be greater supply than demand, and the price would fall.
So understanding supply and demand is easy. What is difficult is to comprehend what is it that makes people like a particular stock and dislike another stock. This comes down to figuring out what news is positive for a company and what news is negative. There are many answers to this problem and just about any investor you ask has his/her own ideas and strategies. These questions would be answered very clearly through the coming chapters. strategies. This question would be answered very clearly in the next chapters.
• At the most fundamental level, supply and demand in the market determines stock price.
• Comparing just the share price of two companies is meaningless.
• Theoretically, earnings are what affect investors’ valuation of a company, but there are other indicators that investors use to predict stock prices. Remember, it is investors’ sentiments, attitudes and expectations that ultimately affect stock prices.