There is a nearly infinite number of factors that can cause the stock market to move significantly in one direction or another, including economic data, geopolitical events, and market sentiment.
For example, the tech stock crash in the early 2000s was the result of a bubble in dot.com stocks as investors were euphoric about the market and speculated irrationally. If investors over leverage their investments, there is a considerable risk that there could be a downward spiral if the market moves in an undesirable direction. Investors may be forced to sell stocks, which drives prices down.
All stock maket moves have one thing in common. The catalyst is a change in the supply and demand for stocks.
Rising interest rates can place downward pressure on real estate investment trusts (REITs) and slow the housing market. Higher interest rates mean higher borrowing costs slowing down purchasing activity and causing stock prices to dive. Changes in tax regulations, such as the recent Tax Cuts and Jobs Act passed in 2017, can have a positive or negative effect on stock movements. The tax cuts of 2017 are expected to boost stock prices as investors and corporations have more resources to spend on stocks. Tax increases, on the other hand, mean that investors have less money to put into the stock market, which has a negative effect on prices.
There is a constant in each of these situations. For any stock market move to occur, whether up or down, there must be a significant change in supply and demand.
The Effect of Supply and Demand
Simply put, supply is the number of shares people want to sell, and demand is the number of shares people are looking to buy. When there is a difference between these two groups, the prices in the market move; the greater the disparity between demand and supply, the more significant the move will be. For example, suppose an individual company is trading up 15% on positive earnings. The reason for the higher share price is an increase in the number of people looking to buy this stock.
This difference between the supply and demand of a stock causes the share price to rise until an equilibrium is reached. Remember that in this case, more people are looking to buy shares than sell them. As a result, buyers need to bid the price of the shares higher to entice the sellers to part with them. This same scenario occurs when the overall market moves: there are more buyers/sellers of companies in the stock market than sellers/buyers sending the price of companies up/down along with the overall market. After all, the stock market itself is just a collection of individual companies.
Example of the Effect of Supply and Demand
On September 17, 2001, the Dow Jones Industrial Average (DJIA) traded down 7.1%, which was one of the largest one-day losses the index has ever suffered. The huge market move was a reaction to the terrorist attacks against the United States that had occurred one week earlier. The DJIA traded down because of increased uncertainty concerning the future, including the possibility of more terrorist attacks or even a war. This uncertainty caused more people to get out of the stock market than into it, and stock prices plummeted in response to the marked decrease in demand.