I’m pretty good at what I do, and I’m very excited to be heading out into the working world soon. But one thing that I do not do — and am very much not good at — is finance stuff. I don’t get it!
I know the basics: supply and demand, right? But, then, I don’t totally understand how that works when we go up a level and look at the stock markets. Do the same rules apply? It seems like there’s much more to a stock’s value than supply and demand — right?
In a way, no! Supply and demand are two of the most basic economic forces, and they are in play even in some of the most complex financial situations. Let’s take a step back and try to understand how marketplaces work--from the simplest to the most complex.
As you seem to understand, one of the most basic principles in capitalism is the idea that a given product or service’s price is determined largely by supply and demand. If a lot of people want something and there isn’t very much of it, then the price will tend to be very high. If very few people want something that there is a lot of, then the price will be low.
There’s more to it than this, of course, because government regulations and other factors can take us out of our theoretical mindset. When farmers think about where to buy corn seeds, for instance, they’re going to consider quality. That’s a form of supply and demand, but it’s a more complicated one than simply, “How many corn seeds are there?” and, “How many farmers want to buy them?” We’re looking now at things like how much farmers are willing to pay for specific corn seeds. Plus, we have government subsidies, regulations, and perhaps even import tariffs to worry about.
Still, the principles of supply and demand are there--just as they are in the stock market. Let’s say a particularly successful seed-selling business wants to expand. To get the cash, they sell shares of their own company to investors. That’s a stock offering, and now there are stocks of this company out there that you can buy and sell.
What are these stocks worth? Well, that’s a complex question, as you point out. But it’s still supply and demand: when all of the math is worked out and you have a sense of how much a company is worth, you’ve decided how much you want (demand) the stock, of which there is only so much (supply).
One of the tricky things about the stock market is that we have to think about imperfect knowledge. If you find the best marijuana penny stocks and are about to see your investment take off, that means you’ve figured something out that the market in general has not. So while demand perhaps ought to be higher for these rising stars in the complicated penny stock market (penny stocks are low-priced stocks that are risky but can have a huge upside), the fact is that the forces are not working perfectly, because not everyone in this example realizes what you have.
In short, in the world of marketplaces--from the simplest ones to the most complex and regulated ones--supply and demand always matter. But they aren’t always the only forces at play, and it pays to think carefully as you make your financial decisions!
““People who are enthusiastic make more money than people who are not enthusiastic. Choose to be enthusiastic.” – Don Connelly