The economy and the stock market are very closely tied together. If you would like to become a successful investor in the stock market, you have to have at least a rudimentary knowledge of economics.
This understanding will be critical to your success, as there are many ways the economy impacts the stock market as well as individual stocks. It is also important to monitor news and information on specific companies and sectors, as well as world events.
How The Economy Affects The Stock Market
By understanding the basics of economic concepts, you can sort through the information you read in the papers and hear on the news, so you can figure out what is applicable and what is not applicable to both your current and future investments.
The stock market is infamous for reacting (and overreacting) to news stories and events around the globe. The challenge for investors is figuring out whether the news affecting the market actually has anything to do with your specific investments. A crisis in the oil rich Middle East will have more of an effect on your portfolio if you are heavy on oil stocks, or oil based ETFs.
While a Middle East crisis may drag down the broad market, it may have little to do with your individual portfolio. If this is the case, use these dips to add to your existing positions or to snatch up stocks from your wish list.
Supply And Demand
Two of the most major concepts in economics are the laws of supply and demand. Supply refers to what is accessible, while demand refers to the price that people are willing to pay for something. Supply and demand rules the stock market, and drastically influence stock prices.
If investors want to purchase a company’s stock, and are willing to pay more for it, the price of that stock will rise. If investors are selling a company’s stock, and there are not enough buyers, the they cost of that stock will fall.
Cause And Effect
The law of cause and effect says that for every effect there is a cause. This translates into the stock market in that financial and industry news will directly affect the value of its stock and the health of the company.
While a particular industry may be performing poorly, it could indicate that the industry or sector is set to rally in the future, and you may want to purchase stock in that industry. Look for industries with growth potential or companies with low P/E ratios compared to their peers.
On the other hand, an industry or sector that is under-performing may have serious problems such as low demand, high debt, or poor cash flow. It is more important to figure out why a stock’s price is low, not just that it is low.
Signs That A Company’s Stock Price Will Increase
There are some signs that you can look for that could indicate a potential rise in a company’s stock price. An investor should be on the look out for positive news about a company or industry, positive news about a company’s patrons, as well as negative news about a competing company.