I just don’t understand how it works…when I hold shares in a company and I spend money there, am I technically making a very very small amount of that money back?
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what is the simplest way to explain how stock prices increase then?
In: Economics
Sort of, but not really. A company’s stock price is based on supply and demand – how many shares are available to be bought vs how many people want to buy them. This means that the share price is much more about peoples’ perception of a company’s value than its actual value. If the actual value grows consistently then that will inspire confidence and more people will want to buy shares in it so the price will go up. The way to grow the company’s value is to sell more stuff, but we’re talking about the scale of an entire company here so nothing an individual buys (unless it’s a lot of their stock all at once) will have any measurable impact on its share price. If people think the company isn’t doing well or there is some bad news about it that gets released confidence will be shaken, more people will want to sell than buy, and its share price will go down. Obviously it’s much more complex than this and there are a lot of factors at play, but this is ELI5 not ELILicensedBroker.
Stock prices increase because of supply and demand. If you buy an iPhone you’re not directly affecting the price of apple shares but you are increasing apple’s revenue and the higher apple’s revenue is, the more people will want to buy its shares (demand will go up) so share price will go up.
Of course, if an iPad happens to blow up and cause a plain to crash, people will be afraid of what’s to come and panic sell (supply will go up) so share price will go down more by many orders of magnitude more.
To explain in the simplest way, the stock prices aren’t directly related to how much a company earns. They’re just a guess about what you (i.e. the market) think the company and it’s stock are worth. Basically, people buy stock in a company, not specifically because stock has any utility or because they want to grow the company, but because they see the potential to make a profit by selling the stock at a higher price later down the road, and maybe make a little extra through dividends.
A stock is essentially a type of currency. When you buy a stock for, let’s say, $10, you buy it with the intention to sell it later to someone else for $12 or $14 or $100, and that person who buys it from you is doing so expecting to sell it for an even higher value down the road. If you know there’s someone out there in the world who’ll buy the stock for $14, then that’s what the stock is worth. Because that’s all you can do with a stock once you have it – you either sell it at its current price to someone who expects its price to increase in the future, or you hold on to it hoping that its price increases in the future when you’ll then sell it.
Where company profits come in is about *confidence*. When people see a company that’s making a profit, it’s generally an indicator that the company has stable finances and isn’t going anywhere. As this *confidence* and *trust* in the company increases, people become more confident that the stock price will increase, and so that confidence ends up increasing the price.
This confidence in the stock is normally maintained by the company in two key ways – through stock buybacks, as well as dividends.
A stock buyback is basically the company giving a guarantee that it’ll buy back stock at a certain price, and that helps stabilise or raise the value of the stock to that price. In this case, the company’s profits are important because these profits are the main source of the funds used for the stock buyback. Hence, if you see a company making a good profit, you become confident that they can afford to buy back their shares, and so the company becomes the person you sell your shares to.
The other main method of stabilising and growing the stock price is through dividends. A dividend is a constant monthly or yearly payment made by the company to every person that owns the stock. Since you earn money on a stock through dividends even without selling the stock, they’re seen as a steady source of income for these stockholders, and so they’re willing to pay more and more money to buy these stock until the point where the return on investment from the dividend is almost negligible. The source of the money for paying these dividends obviously comes from the company’s profits, so higher profits tend to increase confidence that the dividends will keep coming, and so increases the stock price.
It’s worth noting that it’s entirely possible for a stock’s price to drop even though the company is making a profit. This is often seen in unstable markets, where even though a company may have made record profits recently, traders are not confident that they’ll continue to earn that same amount in the future, and so the price can crash. Inversely, you can have a company that’s losing money year after year, but whose stock price keeps increasing constantly – because investors see the company’s losses as a temporary period and expect the company’s value to skyrocket in the future.
As such, I want to stress again – the stock price is *not* correlated to the company’s profits. It’s related to confidence in the company. Especially for a company that doesn’t offer regular buybacks or dividends, the stock price is dependent on how confident you are that you can find a bigger fool to take the stock off your hands, someone who values it more than you do.
As a final note, I was mentioning that stock is inherently useless, and its main value lies in how much you expect to sell it for later. However, that’s only true for the common trader that holds small amounts of stock. For larger traders that hold significant amounts of a company’s stock, they become shareholders that have a say in the main decisions and management of the company.
Stock prices increase when there’s more demand for the stock.
For example, a business can be hugely successful and profitable, but if for some odd reason the stock is considered “bad” and it gets sold in large volumes and no one buys more, the stock price will go down.
Otherside of the coin, GameStop. Stock price booming due to ppl being excited about the stock, but not really related to business performance
Lots of people answering your title question and first paragraph, but as to the second:
> ALSO: what is the simplest way at to explain how stock prices increase then?
The stock market works by supply and demand. You can only buy the stock at a price that someone else is willing to sell it for. Similarly if you own the stock, you can only sell it for what someone else is willing to pay.
Thus stock market pricing works like a basic supply and demand feature, if there are more people who want to buy the stock than there are people who want to sell the stock (i.e., high demand and low supply), the price goes up. If there are more people who want to sell the stock than there are people who want to buy it (low demand and high supply), the price goes down. If there are relatively equal numbers of each, the price stays flat.
As to what makes more people want to buy a stock versus sell a stock or vice versa, that can be lots of things, and why the prices do fluctuate. In general, if a company is exceeding their projected targets for revenues and profits, their stock price tends to go up over the long term and if a company is failing to meet those targets, the stock price will go down over the long term. Especially if these trends happen quarter after quarter and year after year.
However these earnings announcements only happen quarterly, and the stock prices change every day. This will typically be driven by news. If there is positive news about a company, again, prices tend to go up. If there is negative news, prices tend to go down.
But understanding exactly what makes any given stock go up or down in the short term is something that if you figured it out, you would be rich, and not on Reddit.
So back to all of the other comments with this in mind, if you own stock in say Target, and you shop almost exclusively at Target, then sure, you are helping somewhat. But given that Target reports roughly $25B in revenue per quarter last year, then even spending $1000 per month there, then you would be accounting for about 0.00001% of their revenue, and thus wouldn’t be much more than a rounding error. Even with someplace smaller, like say Sephora, they made about $2.5B in revenue per quarter last year, so you would still just be at 0.0001% of their revenue.
But if it makes you feel good about shopping at wherever you own the stock versus a competitor, then it doesn’t hurt anything to shop there either.
Profits do, indirectly, affect stock prices. Not because there is any direct relationship/formula, but because a company that made good profits during any particular quarter tends to look good to investors, who then buy more shares and push the price higher.
As for making a tiny bit of that money back, if you are a shareholder of a company that pays dividends, yes. You technically get a tiny bit of that money back, but it’s minuscule, and the profits from your sale also have to get split among millions of other shares. You do, however, get a share of the company’s profits overall, which can add up if you have enough shares.
> ALSO: what is the simplest way to explain how stock prices increase then?
At a stock exchange, for any given stock, people form two lines: people who hold the stock and want to sell some shares, and people who want to buy shares.
At the front of the seller line is the person willing to sell it for the least amount per share. At the front of the buyer line is the person willing to spend the most per share.
If the buyer’s price is at least the seller’s price, they will transact until either the seller has no more shares for sale at that price and leaves the line, or until the buyer no longer wants any more shares at that price and leaves the line. If the buyer is offering $2 per share and the seller is asking $1.50 per share, they’ll meet in the middle and transact at $1.75 per share.
This process continues until there is no longer an agreement between the highest buyer’s offer and lowest seller’s offer.
A person can ‘cut’ in line by offering to buy at whatever the lowest offered price, or sell at the highest price a buyer is offering. This is where a lot of the movement in a stock price happens happens.
If more people are offering to buy the stock at whatever the lowest price is, the lowest-priced sell offers are going to be exhausted first, leaving only the higher priced ones. This makes the price go up.
If more people are offering to sell at whatever the highest buy offer is, those higher offers will be exhausted first, leaving only the lower offers. This makes the price go down.
The mechanics of what makes people want to buy or sell is complicated. A stock going up in value is going to attract people who will want to quickly buy and resell at a higher price for an easy, no-strings-attached profit. A stock going down will make people try to get money back now before it’s even lower, even if it’s less than what they paid initially.
The truth about stock prices is that it is decided by the investors. A share is worth what someone is willing to pay for it. If good news comes out about the company more people are going to want shares so the investors will offer a bit more than they would have yesterday. However if bad news comes out about the economy in general some people will pull all of their stocks no matter what they own and a good company’s price will drop without the value of the company changing at all.
In theory, yes. In reality, maybe, stock price is more about what people want to pay for it than it’s about how the company is fundamentally doing.
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