Everyone has heard about the law of supply and demand. It’s a theory that explains the relationship between the desire for a particular product and its availability on the market. In most cases, when you have an item that isn’t available but is high in demand, you’re dealing with a high-priced item. The law even affects the stock market.

Let’s take a look at the law of supply and demand and how it pertains to stock trading.

Why You Need to Understand Supply and Demand

There’s so much information out there. For instance, if you want to know to determine where price action might be headed, you can just look up On Balance Volume explanation and learn everything you need to know about it in a matter of minutes.

But there’s a big difference between knowing how to define something and understanding it.

Why do you need to understand the law of supply and demand? Well, if you’re an investor or an entrepreneur, you need this law if you want to predict conditions in the market. Supply and demand determine the stock price, so you can know what to invest in by understanding them.

What Impacts the Demand in the Stock Market

Numerous factors affect the demand in the stock market. Some of them include interest rates, corporate results, and economic data. The latter gives you information about the economy as a whole. If the US economy is in better shape than expected, there will be more demand for stocks, simple as that.

If there’s an increase in interest rates, there’s usually less demand for stocks. But interest rates and economic data tend to moderate each other because interest rates have a tendency to rise when the economy is doing good. Sales, margins, and profits of corporations have a significant impact on the demand for shares.

How Stock Supply Changes

Stock demand can go up and down quickly due to market dynamics, changes in central bank policies, and good corporate results. On the other hand, the supply of stocks tends to change slowly. When it happens, how does the supply of stocks change?

Well, a company can decrease stock supply through delisting and buybacks. That’s what happens when companies buy back their shares at a market price to retire them. This, of course, will decrease the number of overall shares they have on the market.

As long as the demand for stocks doesn’t change, shortening the supply will undoubtedly increase the price. Most companies tend to delist their stocks when they go private or declare bankruptcy.

Boosting Supply in the Stock Market

Can you boost the supply in the stock market? Yes, you can. Some of the most effective boosting supply methods are IPOs (initial public offerings) and issuing new shares. When a private company goes public, this gives them access to different public markets. Every time a company is listed, it increases the number of stocks that compete for the capital of investors.

A company going through financial problems or one that needs capital might issue more shares. This negatively affects the price of stocks because the supply increases. There are also spinoffs, which are similar to IPOs. This happens when an existing company divests itself of units that become their own separate companies.

The Bottom Line

While supply and demand don’t have a direct impact on stock prices, they do have a big influence. As a result, understanding the law of supply and demand is one of the most important things young investors need to learn about before jumping in.