What causes the market to fluctuate?

For the first time in seven months, Sensex has taken a plunge by 1,170.12 points, resulting in a loss of Rs. 7.86 lakh crore for equity investors. If you're wondering what caused the stock market to crash, there are multiple factors at play here. On one level, some everyday occurrences influence the market daily, such as supply and demand or investor analysis. On the other, the ongoing pandemic also affected stock prices in many minor and major ways.

Here, we elaborate on some of the factors that cause the stock market to fluctuate and understand how stocks react in different situations. This will help you stay more mindful of your investment timing and strategies while enhancing your knowledge of the stock market.

1. Basic demand and supply

The fundamental principles of economics dictate that price changes occur during a temporary discrepancy between consumers' demand and producers' supply. In terms of the stock market, demand is defined by the number of shares people want to buy, while supply is about the number of shares people are willing to sell. If the buyers are more than sellers, there's more demand. When that happens, buyers place higher bids on the stocks so that sellers would be tempted to offload. On the other hand, if there are more sellers, they bring the prices down so that buyers would be interested in initiating a purchase. This is how most stock market fluctuations take place.

2. Market indexes

It's not often that the entire stock market takes a beating. In most cases, it's the status of a market index that goes up or down. An index indicates the performance of a particular sector in the market. This performance is one of the more straightforward ways of assessing the overall health of the stock market. Suppose a particular industry is doing exceedingly well (such as the healthcare sector after COVID-19 struck). In that case, financial firms use this index as a guide to creating index funds and exchange-traded funds (ETFs). Indexes are typically grouped based on industry, like tech or education.

3. Profitability of Companies

This is one of the most significant causes of stock market fluctuations. If the financial health of a company deteriorates, it makes sense that its share price would be impacted negatively. There are two company-level indicators that affect the stock market's movements — earning per share and price-earning ratio. When both are on the rise, it results in increased prices of stocks, which causes an upward trend in the market as a whole.

Profit is the ultimate goal of every company. From revenue potential and management abilities to cost management, many factors influence this goal. When you invest in a company, and it turns a profit, the share prices will likely increase, and vice versa.

4. Media reports

Investors, especially new ones, can be heavily influenced by things like market sentiment. During critical financial announcements that indicate a change in the status quo, the market can have an immediate and volatile reaction as compared to news directly impacting investors' interests. However, that doesn't mean the market does not react to such information at all. When there is news of upcoming political elections or an impending natural disaster, stock market fluctuations are relatively commonplace. As an investor, you must learn how to filter these reports and make informed decisions regarding a stock. For instance, if you hear something that you believe will change a company's ability to stay on top or generate cash flows in the future, you might want to pay attention to that news.

5. Worldwide events

Some occurrences around the world can also have a direct and indirect impact on stock prices. It's easy to understand this after the havoc wreaked by the COVID-19 pandemic, which led to significant stock market fluctuations as witnessed in 2020 and 2021. The most recent dip in prices has been attributed to various factors, including but not limited to COVID lockdowns, inflation, falling oil prices, and so on. Geopolitical and microeconomic factors have a considerable impact on how a specific stock or market index performs. Investors need to analyse, assess, and understand these factors to make more educated decisions for their investments.

6. Market trends

Stock market fluctuations can be classified into two trends or phases: the bull and the bear phase. The bull phase is a trend wherein investors are confident about the future of the market as well as the economy at large. This entices them to purchase more stocks, leading to an increase in overall demand and prices. On the other hand, the bear phase implies that investors are concerned about the market's future and would rather sell than buy. This results in stock prices falling across many or sometimes all sectors.

Every fluctuation in the stock market is unique. It is influenced by a variety of factors and can last either a short time (a few days) or longer (a few months). Once you start reading more about the market, you can make better decisions and become a more confident investor. The bottom line here is that you need meticulous research to navigate equity investments that come with high-risk potential in addition to your instincts and intuition. Looking at a stock's recent and historical performance and remaining aware of current events are crucial aspects of investing.

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