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FartyMcFarter

If the stock market is wrong, what will force it to correct?

Does it take a lot of companies going bankrupt?

Is it enough for lots of companies to report big revenue drops? Or is that priced in the minds of most investors?

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It takes more people selling shares (or being forced to sell shares) than there are buyers.

Maybe I have some shares I bought for $10; the price dropped and now I can only sell them for $8. There is a solar farm off to one side selling bonds at some unreasonably high yield.

I could be stubborn and hold the shares until the price comes back - but that would lose me money in the big picture. Instead I sell for whatever I can get and put the money where it will be generating a good return.

If a bunch of people behave like that, sellers quickly overwhelm buyers (potential buyers are flocking to the new opportunity too) and the price corrects to something reasonably fair.

For every stock sold there’s always a corresponding buyer at the market price.

You might want to look into order books to get a better understanding of the price determination mechanism of stocks/assets: https://en.m.wikipedia.org/wiki/Order_book_(trading)

Thanks for your link. I read it. But does it explain/re-affirm that prices go down when there are more people selling than there are people buying?

Typically there are different types of orders as well:

https://en.m.wikipedia.org/wiki/Order_(exchange)

For assets with high liquidity there will always be buyers and sellers, depending on how many are on either side and what their price limits are (if they set any) transactions will occur at different prices. Depending on the order size the price can vary even within a single order (if you need multiple buyers or sellers with different limits to fill it). The market price is just an indication of the current equilibrium price at which there is the most liquidity for an asset. If there are more people that want to sell than people that want to buy at a given price the sellers will have to reduce their ask price to close orders, that drags the market price down. The same dynamic moves the price up when there are more buyers than sellers.

There are exactly as many buys/sells. You can't have more "Sellers". The price can move down, however, without much trading. For stocks with low trading/high volatility it might make sense to give the mid order book price rather than last trade.

Sure you can have more sellers than buyers at a price, you can’t have more transactions, but limit orders can expire or be partially filled.

Imagine a closed off room of 100 traders. There are three sets of people here: a group of pairs doing a transaction, a group of pairs negotiating a strike price, no deals yet, and a final group "sitting on their hands". Only the executed trades are ordered in descending timestamps. The one at the top is the market price. It's the only reliable indicator of what actually got sold and bought.

So, in this room, the price of each transaction, from any negotiations, is a consequence of the conviction of each party in the negotiations and eventually the trade. This includes how optimistic or pessimistic they feel about the value of the stock, how aggressive each one's stance about the predicted future price of the stock, how much greed or fear exists in the minds of the traders etc. This is what moves the price. Prices can move just as rapidly (be more volatile) with a few traders and many sitting on their hands as can be the case that prices hardly move with the entire 100 people transacting.

Conclusion: what moves prices up or down are opposing beliefs with differing levels of conviction in the minds of the traders.

That's a massive and dangerous over-simplification of the market. The market is really complex and the factors that play in determining and moving the price are inter-mingled in a very complex way.

Here are a few ones of the top of my head:

- Someone getting liquidated on a big contract and crashing the whole market with him. (see Oil prices a few weeks ago).

- Someone trading exotic/complex derivatives. His trades on the stock will not make sense unless you account for his whole trade/structure that he created. He can/does move the market in unusual ways.

- Someone trading in a certain way because of taxes. His trades will not make sense if the tax rate was 0%.

- Someone laundering money through the market by buying the stock somewhere and selling it somewhere else in a derivative market making his net position neutral and trying in the process to move proceeds from one place to another. This is, actually, a big one.

- Someone getting out of position when it would be profitable for him not to. But he has better alpha somewhere else he is going to chase.

I can't tell if you are saying that in support or opposition, but yes - the imbalance in buyers and sellers is what causes the price to move until everything matches again.

I am saying that in opposition.

Sellers do not overwhelm buyers _when_ the price goes down, or vice-versa. There is no "overwhelming" of one group over the other. Nor do prices go down _because_ of an independent phenomenon other than buying and selling. The price is judged on the _value_ sellers and buyers ascribe to the stock at a given time. If they match, a transaction takes place. In the end there are always exactly equal buyers as there are sellers.

Unless they are selling to themselves through a triangle of ETFs

Or a trip switch has killed trading in an asset - or perhaps the entire market.

Buyers and sellers only match under normal trading conditions. Good luck expecting your stop loss orders to mean anything when there's a mass panic.

If more people are interested to sell than to buy, that will create downward pressure on the price - even if in the end for every individual trade there is both a buyer and a seller, that is a sort of "overwhelming", if you think of the buyer as a (name, bid) pair.

What is meant here is that if we have a closed room with 100 people.

If there are 60 investors who want to sell stocks and 40 who want to buy always equally as much for simplification purposes and the price is $50, the price will keep moving down until there's 50 investors who want to sell and 50 investors who want to buy.

40 trades will happen on $50 price, but then there is 20 sellers still left who want to sell at this price. Since there are no buyers, price will go lower and slowly some sellers don't want to sell lower than $50, so there might be 15 sellers left at $45 and 5 buyers, they will do the trade and then there will be 10 sellers left. let's at $40 there will be 5 who decided it's good to buy now and this is where the fair price will have landed, at $40.

Great question! I know of the standard simplistic answer, but still curious about how it works in detail. In theory a share represents your claim on the future profits of the firm and grants you some control over its decisions. So when the prospects of the firm look bleaker, more shareholders will sell, pushing the price down until there is a consensus that the current price fairly represents the value of a share.

What bothers me is that most traders don't care about control or profits - they just want the number to go up (or down). How does the price get grounded in reality in this case? The answer is presumably: in trades between speculators and those who do care about profits and control. But where is the guarantee that those trades happen? What if speculators mostly trade among themselves?

Perhaps the tax preference should be shifted from capital gains to dividends.

Dividends should really be taxed as normal income, then you can abandon corporation tax which seems option for multi-nationals.

Perhaps we should eliminate dividends and shift to buybacks and fractional shares. Then stockholders could choose when to cash out but would reinvest by default.

Perhaps W2 employees should get unlimited IRA contributions and no age requirements for distributions.

Perhaps one might think most companies are either: 1) fundamentally sound, in which case buy on the dip, or 2) going to get bought out by a stronger company, in which case buy in before the sale

There might be a few companies that fall into neither group, being so fundamentally unsound that they will simply be shuttered with no sale, but that would surely be a small percentage of the stock market.

> If the stock market is wrong, what will force it to correct?

How about not "correcting" the corrections in the first place? Let the market actually be a market, don't inject huge amounts of money into it?

Not to be confused with helping out ordinary people who need money for spending.

By correct I meant to go to the "correct" value. The premise was that the stock market is overvalued (is this premise true? I don't know).

Actually the premise is "the market is overvalued and therefore there will be a significant correction."

Technically the current value is the correct value. The question isn't whether this value is "wrong" - it isn't, by definition - but whether or not Mr Market is delusional and prices will crash at some point in the near/mid future.

Explicitly, the distinction is between investors who are looking at fundamentals, and investors who are looking at market momentum and trying to factor in their guesses about politics and Fed policy.

If you consider fundamentals, P/E is up to insane levels in a barely functioning economy. If you consider politics - optimism may be justified. Possibly.

But if it is - what does that say about the value stock markets are supposed to provide?

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