How are Stock Prices Determined?

Last Updated: 11 Oct 2024

With an extended history, the Indian stock market has drawn a significant amount of investors. It has grown into a highly developed, dynamic market with cheap broker commissions, wide participation, and great liquidity.

The abundance of participants offering a wide range of goods and services to investors is what defines the Indian stock market. The Indian stock market is enormous, to start. Any of the major markets, including the National Stock Exchange of India and the Bombay Stock Exchange, allows you to purchase stocks. There are dozens of companies registered on these exchanges, so there are plenty of stocks to select from. To know how share price is calculated read on to: –

Understanding What Determines Stock Price

In the long run, the business’s earnings power determines stock prices. Recall that a stock is an ownership stake in a real company. The stock will perform better the more successfully the business does.

According to billionaire investor Warren Buffett, the stock of a firm is worth the discounted value of the stream of cash flows it will generate throughout the company. Since money made today is more valuable than money made tomorrow, he will first project how much the company will produce in the future and then discount those earnings to arrive at the business’s valuation.

But a stock will frequently diverge from that estimation. It is deemed undervalued if it trades for less than the value. It is deemed overpriced if it trades for more. As the market evaluates the stock price in relation to the company’s earning potential, the price of the stock eventually returns to its intrinsic value. Value investors are those who buy cheap stocks and short overpriced equities in an attempt to profit from variances.

How are Stock Prices Determined In India?

In India, supply and demand determine the pricing of shares:

The entire number of shares is known as the supply, and the number of shares that investors are willing to purchase at a specific price is known as the demand.

A number of variables, including the state of the economy, the success of the industry, investor mood, and corporate fundamentals, can affect stock prices.

What Factors Affect the Share Prices?

There are other factors besides supply and demand that affect stock price swings. Indeed, a number of factors may interact to cause price fluctuations.

1. Policy and Regulatory Changes

Laws that influence how companies conduct business can be altered by policy and regulatory changes, which affect the stock market. The movement of stocks may be impacted by changes in government policy, regulations, or their implementation. Government budgeting pronouncements, for example, have the potential to affect certain sectors of the stock market or the entire market.

For example, all listed insurance stocks would respond instantly if the government increased foreign direct investment in the insurance sector. Likewise, alterations in regulations will also affect the value of the stock.

2. Inflation

Businesses’ and customers’ purchasing power is diminished by inflation, which is an increase in the total cost of products and services.

Therefore, investors may get nervous about the state of the economy and sell some of their shares if the rate of inflation is rising. However, if the rate of inflation is declining, investors can become more upbeat about the state of the economy and increase their stock purchases. Put differently, stock prices can be impacted by a positive or negative shift in inflation.

A company’s financial performance may also be negatively impacted by high inflation because of the increased cost of purchasing goods and services. An increase in costs has the potential to reduce a company’s earnings, which would deter investors from buying the company’s stock and cause the price to drop.

3. Management Commentary

The leadership expertise and management style of a corporation influence stock prices. The announcement or commentary from management may cause the stock prices to move immediately.

For example, when Asian Paints’ management decides to raise the prices of their products, the stock price typically rises as well because this could indicate a rise in the company’s income.

As a result, it can enhance financial performance, which might lead to increased dividend payments to shareholders.

4. Interest rates

Interest rates have a significant impact on the cost of borrowing for businesses. High-interest rates have the potential to increase the cost of borrowing for corporations. Consequently, a decline in corporate earnings could lead to a decline in stock prices overall.

Moreover, equities may become less appealing in the face of rising interest rates compared to bonds, certificates of deposit (CDs), and other investments whose yields gain from higher rates. Stock values will plummet if investors decide to jump ship. Conversely, if interest rates are lower, the opposite can occur. Lower borrowing costs could improve share prices and earnings projections.

5. Natural Disasters

India’s economy and the stock prices of the firms are strongly related. Natural disasters are one of many variables affecting the economy.

Natural disasters can have a major effect on India’s economy and the stock prices of Indian-based businesses. Natural catastrophes frequently have an effect on stock values in India despite the fact that there are numerous other factors that also directly affect them.

Because it impacts corporate operations and consequently lowers demand for goods and services, it affects the stock market. Because Indian businesses rely heavily on infrastructure and systems that might not be able to withstand natural disasters like floods or earthquakes without disruption, these occurrences can have major repercussions for them (such as electricity).

6. World events

Bombs and wars are examples of geopolitical dangers that can generate instability not only in other countries but also in the financial market.

According to data from LPL Research, throughout 20 significant geopolitical crises between 1941 and 2020—including the attack on Pearl Harbor, President John F. Kennedy’s assassination, and the 9/11 terrorist attacks—the S&P 500 stock index plummeted by an average of 5%. However, the index recovered in an average of 50 days following the crisis, as noted by LPL Research.

According to that assessment, data released by the International Monetary Fund shows that geopolitical risks resulted in a decline in stock returns ranging from 10.53% to 42.14% between 1985 and 2020. Researchers reached this conclusion after looking at stock returns across 22 nations.

7. Liquidity

How simple it is to buy or sell shares is referred to as liquidity. It is easier for investors or traders to sell their shares when there is a lot of liquidity. Because investors are more inclined to purchase stocks when there are more buyers than sellers, liquidity also has an impact on stock prices.

Traders and investors influence the cost of a stock. Nonetheless, their impact is primarily determined by the company’s fundamentals or the health of the market. All the stocks in a sector tend to rise when the market is rising or when a certain sector is receiving attention.

In a similar vein, price fluctuation is dependent on the volume of shares that are available for trade. A small number of equities on the market may have relatively stable pricing, mostly because of low liquidity. The sell orders that are awaited need to be filled by purchasers.

8. Other factors

An organisation’s internal elements also have an impact on its stock price apart from the previously listed ones. These variables include news of dividends, bonuses, rights, or the splitting of shares, which can cause prices to spike briefly before correcting or vice versa.

Similarly, any news or rumours from whistleblowers on a company where fraud or a probable default occurs could have a detrimental impact on stock values. Any acquisition or merger will also have an impact on the stock price. The modification, meanwhile, will rely on how it helps the business, its potential for expansion, and the value to shareholders after the sale.

Role of Stock Exchanges

The NSE and the Bombay Stock Exchange are two important stock exchanges in India that influence stock prices:

1. Price Discovery

Stock exchanges assist in the discovery of stock values based on the dynamics of supply and demand by means of an ongoing auction process. The exchange compares these orders to ascertain the price at which trades are performed after buyers and sellers submit their bids and offers.

2. Liquidity

Stock exchanges offer a trading platform that guarantees market liquidity. Because of this liquidity, price discovery is facilitated more effectively by making it easy for investors to acquire and sell shares.

3. Regulation

Under the close supervision of regulatory agencies such as SEBI, stock exchanges guarantee equity and openness in trading procedures, preserving investor trust and supporting steady price setting.

The Bottom Line

Stock markets have performed better than any other financial asset throughout history. Stock market trading can be lucrative, provided you make intelligent investing decisions. A stock’s price may fluctuate based on the elements above.

Thus, if you’ve ever wondered how to calculate stock values, these variables can be thought of as the main ones in India, where traders deal in equities valued at thousands of crores of rupees every day.

Frequently Asked Questions

How do stocks get their prices?

The market forces of supply and demand eventually decide the share price. This stock’s price will decrease in proportion to the number of shares in circulation compared to the level of demand. A share’s price will rise in proportion to the amount of demand there is for it.

How is the share price is decided by?

Based on a stock’s current price divided by EPS, the P/E ratio is a frequently used indicator of stock value. In summary, price to earnings (P/E) indicates the cost to investors of one dollar of a company’s profits.

How do you know when a stock will go up?

According to Haight, it’s difficult to predict when a stock’s price will rise. However, you can search for indicators like the state of the economy or the company’s financial performance. Observers of the stock market also provide projections that you should consider.

How will a stock go up the next day?

Moving Averages, Bollinger Bands, the Relative Strength Index, and MACD (Moving Average Convergence Divergence) are a few popular indicators that are used to predict stock values. These indicators assist investors and traders in determining market trends, momentum, and probable points of reversal in stock prices.

Where do you actually buy stocks?

You’ll frequently need to employ a broker to put your orders on an exchange in order to trade equities. In addition to thorough financial planning, a full-service broker offers professional investment analysis, advice, and commentary, albeit at a higher cost.